-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, PNyRfBYnUYT1FOQIADgbbOEwGa9ui7SuVG6YioHAS8GxVQ3At80+OteIi7hZ2yJx KymNQet6eEhItyhdAQdw+Q== 0000950134-00-001820.txt : 20000313 0000950134-00-001820.hdr.sgml : 20000313 ACCESSION NUMBER: 0000950134-00-001820 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000310 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PEGASUS SYSTEMS INC CENTRAL INDEX KEY: 0001040261 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER PROCESSING & DATA PREPARATION [7374] IRS NUMBER: 752605174 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-22935 FILM NUMBER: 566259 BUSINESS ADDRESS: STREET 1: 3811 TURTLE CREEK BLVD STREET 2: STE 1100 CITY: DALLAS STATE: TX ZIP: 75219 BUSINESS PHONE: 2145285656 MAIL ADDRESS: STREET 1: 3811 TURTLE CREEK BLVD STREET 2: STE 1100 CITY: DALLAS STATE: TX ZIP: 75219 10-K 1 FORM 10-K FOR FISCAL YEAR END DECEMBER 31, 1999 1 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 --------------------- FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO --------------------- COMMISSION FILE NUMBER 0-22935 PEGASUS SYSTEMS, INC. (Exact Name of Registrant as specified in its charter) DELAWARE 75-2605174 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3811 TURTLE CREEK BOULEVARD, SUITE 1100, DALLAS, TEXAS 75219 (Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (214) 528-5656 Securities Registered Pursuant to Section 12(b) of the Act: NONE Securities Registered Pursuant to Section 12(g) of the Act: COMMON STOCK, PAR VALUE $0.01 PER SHARE RIGHTS TO PURCHASE SERIES A PREFERRED STOCK (TITLE OF CLASS) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] The aggregate market value on March 9, 2000 of voting stock held by non-affiliates of the registrant was $468,575,654. The number of shares of the registrant's common stock, par value $0.01 per share, outstanding as of March 9, 2000 was 20,353,135. DOCUMENTS INCORPORATED BY REFERENCE Selected portions of our definitive proxy statement for the 2000 annual meeting of stockholders to be held on May 2, 2000 are incorporated by reference into Part III of this Form 10-K. We disclaim incorporation by reference of information contained on any Internet site. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 PART I ITEM 1. BUSINESS Except as expressly indicated or the context otherwise requires, the "Company," "Pegasus," "we," "our" or "us" when used in this report refers to Pegasus Systems, Inc., a Delaware corporation, and its predecessors and consolidated subsidiaries. This report contains forward-looking statements within the meaning of the federal securities laws. Actual results and the timing of events could differ materially from those projected in or contemplated by the forward-looking statements due to a number of factors, including those listed herein under "Risk Factors". OVERVIEW Pegasus is a leading provider of transaction processing and electronic commerce services to the hotel industry worldwide. Pegasus is organized into three businesses: Pegasus Electronic Distribution, Pegasus Commission Processing and Pegasus Business Intelligence. - Pegasus Electronic Distribution improves the efficiency and effectiveness of the hotel reservation process by enabling travel agents and individual travelers to electronically access hotel room inventory information and conduct reservation transactions. Pegasus Electronic Distribution consists of our GDS distribution service and Internet-based distribution services, which include TravelWeb.com, the private-label reservation service and other Internet-based distribution services. - Pegasus Commission Processing improves the efficiency and effectiveness of the commission payment process for participating hotels and travel agencies by consolidating payments in the customer's currency of choice and providing comprehensive transaction reports. - Pegasus Business Intelligence provides database marketing and consulting services and is being expanded to provide services that search and organize data into meaningful information for competitive analysis and strategic planning for the hotel industry. In 1999, approximately 47%, 48% and 5% of Pegasus' consolidated revenue was derived from Pegasus Electronic Distribution, Pegasus Commission Processing and Pegasus Business Intelligence, respectively. INDUSTRY BACKGROUND The room reservation and commission payment processes in the hotel industry are complex and information intensive. Making a hotel room reservation requires significant amounts of data, such as room rates, features and availability. This complexity is compounded by the need to confirm, revise or cancel room reservations, which generally requires that multiple parties have ongoing access to real-time reservation information. Similarly, the process of reconciling and paying hotel commissions to travel agencies is based on transaction-specific hotel data. Furthermore, this process consists of a number of relatively small payments to travel agencies that often include payments in multiple currencies. In addition, information regarding guest cancellations and "no-shows" needs to be accurately communicated between hotels and travel agencies in order to reconcile commission payments. Reservations for hotel rooms are made either directly by individual travelers or indirectly through intermediaries. Individual travelers typically make direct reservations by traditional methods such as telephoning or faxing a hotel to ascertain room rates, features and availability and to make reservations. Increasingly, individual travelers are conducting all aspects of this transaction through hotel and travel-related websites. Intermediaries for hotel room reservations, including travel agencies, convention and other large meeting organizers and corporate travel departments, access hotel information either by telephone or fax or through a global distribution system. Global distribution systems, such as Sabre and Galileo, are primarily mainframe-based systems that are connected through communications links to travel agencies and other intermediaries. Global distribution systems maintain databases of room rates, features and availability information provided by hotels to which they are connected. Because each global distribution system has a 2 3 unique electronic interface to hotel reservation systems, each global distribution system can be used to obtain room information and book rooms only at hotels that have developed protocols and message formats compatible with that particular global distribution system. Hotels depend upon room distribution information to assist in marketing and pricing hotel rooms. However, much of the information currently available regarding hotel room distribution does not contain current information or in-depth detail about guest behavior. It also is not customized to contain the information that is valuable to a particular user. Furthermore, it may reflect events or industry patterns that occurred months in the past and as a result may not be as useful. A number of current trends are affecting the hotel industry: - The hotel industry has been shifting from manual to electronic means of making hotel room reservations. As more hotels become electronically bookable, Pegasus expects that electronic hotel room reservations will grow substantially in the United States and internationally over the next several years. - A growing number of individual travelers are making hotel room reservations electronically on the Internet. - Smaller hotel chains and independent hotels increasingly have affiliated with larger hotel chains through a process known in the industry as "branding" or "reflagging." This global consolidation process produces economies of scale and increases the global penetration of larger hotel chains, many of which are Pegasus customers. - Hotel commissions are becoming increasingly important to travel agencies as a source of revenue. Travel agencies are looking to increase their revenue by making more hotel room reservations to offset the effects of increased competition among travel agencies, new competition from emerging travel service distribution channels such as the Internet and ceilings on commissions for airline reservations, which historically have been the leading revenue source for travel agencies. - Participants in the travel industry increasingly desire detailed, customized information regarding hotel room distribution that can be delivered in a timely manner. PEGASUS SOLUTION Pegasus provides information and transaction processing services that improve the efficiency and effectiveness of the hotel room reservation and commission payment processes. Pegasus Electronic Distribution enhances the electronic hotel room reservation process by providing a single electronic communication interface that enables individual travelers and intermediaries to access hotel room inventory information and conduct reservation transactions. Pegasus Commission Processing improves the efficiency and effectiveness of the commission payment process for hotels and travel agencies by consolidating commissions into one payment in the travel agency's currency of choice and by providing comprehensive transaction reports. Pegasus Business Intelligence is intended to provide detailed and timely hotel information that is valuable to a wide variety of audiences in the global hotel industry from hotel chains to travel industry marketing groups to corporate travel departments. Our services benefit many of the participants in the hotel room distribution process. Travel industry participants that benefit from these services range from hotels to travel agencies and hotel representation firms, to global distribution systems, convention and other large meeting organizers, corporate travel departments and websites with travel-related features. Hotel representation firms are companies that assist hotels in marketing and sales. Our strategic position as a gateway in the hotel room distribution chain, our transaction processing capabilities and our reputation for reliability and neutrality enable us to offer a range of services delivering industry-wide benefits that are difficult for industry participants to achieve individually. Because we process transactions from a wide variety of sources, we are well positioned to capitalize on the overall growth in electronic hotel reservations, whether made through global distribution systems, the Internet or other means. 3 4 STRATEGY Our goal is to be the leading provider of information services and technology in the distribution of hotel rooms. We believe that our central role in the hotel industry room reservation process positions us to achieve this goal. Key elements of our strategy include the following: - Expand Hotel Room Distribution Channels. We are expanding our service offerings to include additional distribution channels, such as hotel room reservation services for individual travelers over the Internet, for convention and other large meeting organizers and for corporate travel departments. We are addressing this online distribution opportunity through increasing the capability and consumer awareness of our TravelWeb.com website and expanding the use by third-party websites of our private-label reservation service. Our services are intended to provide transaction fee revenue opportunities through virtually all of the distribution channels by which electronic hotel room reservations occur. - Develop and Expand Pegasus Business Intelligence. We intend to continue to develop and expand Pegasus Business Intelligence. This service is intended to provide hotel and other industry participants with hotel transaction information for use in strategic analysis, market tracking, improved target marketing and revenue optimization. We recently acquired and are developing software and technology to enhance our ability to gather and process hotel checkout data for Pegasus Business Intelligence. - Build Strategic Alliances and Pursue Acquisition Opportunities. To enhance the functionality and market presence of our services, we intend to build strategic alliances with other participants in the hotel industry, including those providing financial information services, information technology services and travel related Internet-based services. We believe that these relationships will increase brand recognition of our services and help to expand our customer base. We will also seek to acquire assets, technology and businesses that provide complementary services or access to new markets and customers. - Expand Customer Base. Our established customer base includes hotels, hotel representation firms, travel agencies, global distribution systems and third-party websites. We intend to expand our customer base domestically and internationally by adding customers and by cross-selling new and existing services to our current and future customers. Because of the fixed nature of many of our costs, the addition of new customers and the increase in transaction volumes of new and existing customers would enhance the profitability of our services. SERVICES Pegasus is organized into three businesses: Pegasus Electronic Distribution, Pegasus Commission Processing and Pegasus Business Intelligence. PEGASUS ELECTRONIC DISTRIBUTION Pegasus Electronic Distribution consists of the GDS distribution service and Internet-based distribution services. GDS distribution service Our GDS distribution service provides an electronic interface for communications concerning hotel reservation information between major global distribution systems and reservation systems maintained by hotels and hotel chains. These reservation systems, consisting of both hardware and software, are commonly referred to as central reservation systems. This electronic interface enables a hotel to connect to major global distribution systems without having to build and maintain a separate interface for each global distribution system. Without Pegasus' GDS distribution service or a similar service, hotel chains that desire their room inventory to be accessible to travel agencies electronically on a global distribution system must develop protocols and message formats compatible with each global distribution system, a process that entails significant time and expense. Alternatively, hotels may rely more heavily on less-automated means, such as traditional toll-free telephone reservation centers with higher processing costs. The technology underlying the 4 5 GDS distribution service enables the processing of hotel room reservations and transmits daily millions of electronic status messages, which are used to update room rates, features and availability on global distribution system databases. Many participating hotels also utilize our GDS distribution service to provide travel agencies with direct access to a hotel's central reservation system, bypassing the global distribution system databases to obtain the most complete and up-to-date hotel room information available. Hotels using the GDS distribution service improve the efficiency of their central reservation systems and reduce costs by not having to develop and maintain separate hardware and software that is compatible with each global distribution system. Through the GDS distribution service, participating hotels gain access to a wide audience of travel agencies worldwide that are connected to global distribution systems. Participating hotels also can provide better customer service due to the ability to frequently update hotel room information on global distribution system databases in a fast and reliable manner. The GDS distribution service benefits travel agencies that use global distribution systems by providing real-time access to detailed hotel room information and enabling them to make reservations and receive confirmations in seconds from over 29,000 hotel properties worldwide. Pegasus charges its hotel customers a fee based on the number of net reservations processed through the GDS distribution service. In addition, hotels pay fees for status messages sent to global distribution systems through the GDS distribution service. New participants in the GDS distribution service may be charged one-time set-up fees for work associated with the implementation of the interface with the GDS distribution service. Pegasus also charges some global distribution systems a fee based on the number of net reservations or the number of hotel links in place as compensation for Pegasus' management and consolidation of multiple interfaces. Pegasus electronic distribution technology enables Pegasus to enhance its revenue base by providing the information and reservation capabilities for its other hotel reservation services, including TravelWeb.com, private-label reservation, meeting and convention and corporate travel services. Internet-based distribution services Our Internet-based distribution services include TravelWeb.com, the private-label reservation service, the meetings and conventions service and the corporate travel service. These services enable travelers to make reservations electronically at approximately 32,000 properties in 180 countries as of December 31, 1999. TravelWeb.com. Located at www.travelweb.com, TravelWeb.com provides individual travelers direct access to online hotel information and the ability to make reservations on the Internet. Individual travelers traditionally obtain information or reserve a room by contacting a hotel directly by telephone or fax or indirectly through intermediaries, such as travel agencies, convention and other large meeting organizers and corporate travel departments. As a result, an individual traveler cannot easily obtain information from a wide range of hotel properties in a timely manner. TravelWeb.com provides travelers with detailed information regarding a wide array of hotel properties. Furthermore, through the use of Pegasus electronic distribution technology, TravelWeb.com allows travelers to reserve a hotel room and receive a confirmation in seconds. In addition to hotel room reservations, TravelWeb.com offers airline booking capabilities. TravelWeb.com benefits hotels, hotel representation firms and individual travelers. TravelWeb.com reduces hotel room reservation costs for hotels and hotel representation firms compared to traditional hotel room reservation methods. TravelWeb.com also enables access to an emerging low cost distribution channel. In addition, TravelWeb.com provides an inexpensive method of publishing and distributing comprehensive and up-to-date hotel marketing information with an attractive presentation format featuring visual images and graphics. Hotels can easily add, delete and update information using the "remote author" feature. This feature enables hotels to take advantage of the real-time nature of the Internet to offer flexible pricing and to reach individual travelers on a worldwide basis quickly and inexpensively. TravelWeb.com benefits individual travelers by providing electronic access, 24 hours a day, seven days a week, to shop for and reserve a hotel room in one or more of the thousands of hotel properties online. Furthermore, individual travelers are able to gain detailed information about a hotel property and its special promotional offers through the rich information content available on TravelWeb.com. 5 6 Pegasus derives its TravelWeb.com revenues by charging participating hotels a fee for subscribing to the service and a combination of transaction fees or commissions. Transaction fees are based on the number of net reservations made at participating properties through TravelWeb.com, and commissions are based on the value of the guest stay for reservations booked through TravelWeb.com. Private-label reservation service. Our private-label reservation service is a service targeted to customers that are operators of travel-related websites, such as Expedia.com and TravelNow.com. This service provides websites with our online distribution database and electronic hotel room reservation functionality. To conduct Internet-based electronic commerce successfully, website operators must offer a content set that is sufficiently broad, accurate, up-to-date, graphically appealing and useful to attract buyers to the website. Typically, the development of such a content set is expensive and time consuming. Furthermore, in addition to providing individual travelers with access to useful and graphically appealing information, the website operator must offer individual travelers the capability to make a reservation in order to generate a transaction fee. The private-label reservation service offers website operators a detailed and comprehensive set of hotel information and a simple and fast method of making a hotel room reservation online. The private-label reservation service provides a customized hotel database that appears to the user to be the database of the third-party website. Additionally, the third-party website establishes a connection to the Pegasus electronic distribution technology that enables users of the website to shop and query room availability, electronically make a reservation and receive a confirmation in seconds. Pegasus' hotel customers benefit from the private-label reservation service because it more broadly disseminates, through the Internet at a lower cost, the same marketing information available on TravelWeb.com. As a result, hotels need only incur the effort and expense of creating and maintaining their information on a single website to reach multiple Internet distribution points and achieve increased visibility. Furthermore, the private-label reservation service provides hotel customers an inexpensive means to distribute and publish visually attractive marketing information and Internet-specific promotions. Hotels offering their own brand-specific websites also can have their own content delivered to their websites from Pegasus' online distribution database and process reservation requests from their websites through Pegasus' booking engine. Third-party website users and operators benefit from the private-label reservation service through immediate access to the rich content of TravelWeb.com. Furthermore, because users of the third-party websites can book hotel rooms and receive confirmations in seconds through the Pegasus electronic distribution technology, this service affords third-party website operators the opportunity to generate a transaction fee revenue stream. For reservations that originate on websites using the private-label reservation service, Pegasus charges transaction fees based on the number of net reservations made at participating properties. Private-label reservation customers also pay initial development fees and either monthly maintenance or subscription fees. Initial development fees are for establishing an electronic communication link between the hotel's central reservation system and third-party websites. Maintenance fees are for managing the communication link and the online distribution database. Subscription fees are based on the number of properties listed on Pegasus' online distribution database. Other Internet-based distribution services. Our meetings and conventions service automates the processing of hotel reservations for conventions and large meetings. The manual process traditionally used to reserve hotel rooms for these events is information-intensive and inefficient and frequently leads to inaccurate and delayed information and overbooking or underbooking. With our meetings and conventions service, convention and other large meeting organizers are able to electronically transfer reservation requests through Pegasus to book a room in each hotel central reservation system. Pegasus' meetings and conventions service eliminates the need to deliver rooming lists for manual entry on a hotel's reservation system and allows hotels to deliver reservations and confirmations electronically in a fast and reliable manner. Pegasus' meetings and conventions service benefits all parties involved in hotel room distribution for conventions and large meetings. Since reservations are made through the Pegasus electronic distribution technology rather than manually, reservations, modifications and cancellations are received earlier and updated more frequently and efficiently. The meetings and conventions service provides convention and other large meeting organizers a single connection to multiple hotel properties and enables them to make fast, 6 7 accurate and reliable hotel room reservations and receive confirmations at reduced cost. The meetings and conventions service also assists hotels in controlling their room inventory by reducing the risk of overbooking or underbooking and allows hotels to reduce the booking costs related to convention reservations. Pegasus estimates that the majority of these types of reservations are made at five major hotel chains. These hotel chains include Hilton, Hyatt, Marriott, Sheraton and Westin, and their facilities are designed for and cater to large conventions and meetings. Because all five of these chains are GDS distribution service customers, Pegasus is positioned to take advantage of the existing connectivity with these chains to facilitate the development and marketing of the meetings and conventions service. Pegasus' corporate travel service provides corporate travel departments with electronic hotel room inventory information and room reservation capability by connecting these features with corporate intranet travel management software. With the corporate travel service, corporate travelers are able to check availability and make hotel reservations within seconds at hotel chains or properties with which the traveler's employer has negotiated rates. Our corporate travel service enables corporate travel departments to have access to the customized information negotiated with hotel chains and properties to facilitate hotel room reservations. Furthermore, this information can be fully integrated into other components of the intranet site and facilitate the creation of passenger name records and detailed profile information. Pegasus' corporate travel service will benefit hotels by providing an additional hotel room distribution channel and enabling targeted marketing efforts directed at corporate travel departments. Hotels will also be able to reduce distribution costs for corporate room sales and better update information and respond to reservation requests from corporate travelers compared to traditional hotel room reservation methods, such as telephone or facsimile. Pegasus markets this service to developers of corporate travel software programs and to travel agencies that operate intranet travel management services. Our corporate travel service is intended to provide benefits to travel agencies and companies by decreasing the amount of time necessary to arrange a business trip, improving travel information reporting and helping to ensure that employees comply with company travel policies. Pegasus has not received a material amount of revenue from the private-label reservation service for corporate travel or the meetings and conventions service to date, and there can be no assurance that these services will produce material revenues in the future. PEGASUS COMMISSION PROCESSING Pegasus Commission Processing is the largest provider of travel agency commission processing services in the hotel industry having as its customers four of the five largest travel agencies according to Travel Weekly and nine of the ten largest hotel chains based on total number of rooms. Over 25,000 properties and over 85,000 travel agencies are registered as Pegasus Commission Processing participants as of December 31, 1999. Typically, a hotel pays to the travel agency that made the hotel reservation a commission of approximately 10% of the room rate paid by a hotel guest. However, the payment process related to these commissions historically has been costly and inefficient. The process has consisted of numerous checks in small amounts and little information regarding the basis from which the commission was calculated. Furthermore, communication between hotels and travel agencies regarding payable commissions generally has not been effective. Often guest cancellations or "no-shows" would not be reported, and travel agencies would expect a commission when in fact none was due. As a result, travel agencies lacked the necessary resources to reconcile commission payments effectively. Pegasus Commission Processing streamlines the commission payment process by consolidating into a single payment the aggregate commissions owed by participating hotels to each participating travel agency during a payment period. Additionally, Pegasus Commission Processing offers a service to pay commissions on behalf of hotels to travel agencies that are not Pegasus Commission Processing participants. Pegasus Commission Processing benefits hotels by providing an incentive to travel agencies to make reservations at participating hotels in countries other than their own because Pegasus Commission Processing disburses checks denominated in each travel agency's currency of choice. However, Pegasus does not receive 7 8 significant revenues or incur significant expenses in foreign currencies. Furthermore, Pegasus Commission Processing provides monthly and quarterly marketing reports and statistics that allow the hotel to identify and market more effectively to those travel agencies that provide the hotel with the majority of its guests. The hotel also benefits from Pegasus Commission Processing's customer relations center, which allows travel agency inquiries regarding commissions to be resolved by Pegasus rather than by the hotel itself. Additionally, Pegasus Commission Processing benefits travel agency participants. The single check that Pegasus Commission Processing delivers for a particular payment period reduces the staff time spent processing multiple checks and deposit slips, eliminates bank fees for multiple deposits and currency exchanges for checks issued in foreign currency. Pegasus Commission Processing also is designed to improve the travel agency's ability to manage cash flow. Pegasus Commission Processing delivers a monthly report that allows the travel agency to confirm commissions paid, follow customers' reservation habits and reduce expenses associated with collection and with tracking cancellations and "no-shows." Pegasus Commission Processing's customer relations center provides prompt responses to agency inquiries and can substantially reduce the time and cost of reconciling outstanding commissions. Our optional services for electronic payment and reconciliation of commissions provide travel agencies with immediate access to funds and further reduce commission reconciliation costs. Pegasus Commission Processing maintains a website that provides a comprehensive description of its services. The website also provides a complete listing of all of the hotels that have committed to paying hotel commissions through Pegasus Commission Processing. Moreover, travel agencies can subscribe to an executive summary report that can be used to evaluate the travel agency's activity with a particular hotel to assist with commission negotiations, among other matters. Pegasus charges each participating travel agency a service fee based on a percentage of the commissions paid by hotels and hotel chains that are processed by Pegasus on behalf of the travel agency. Pegasus also generally charges a participating hotel a fee based on the number of commissionable transactions processed by Pegasus for that hotel. PEGASUS BUSINESS INTELLIGENCE Pegasus Business Intelligence provides hotel database marketing and consulting services. Pegasus Business Intelligence also is being expanded to provide services that search and organize data into meaningful information for competitive analysis and strategic planning for the hotel industry. Pegasus Business Intelligence is intended to provide information for a wide variety of audiences in the global hotel industry, from hotel chains to travel industry marketing groups to corporate travel departments. This service compiles data regarding hotel guests and their use of hotels and organizes that data into meaningful information. Pegasus Business Intelligence intends to provide other information services, including comparing a hotel's daily room and occupancy rates with that of its competition. Pegasus Business Intelligence also intends to provide industry trend reports and guest behavior data in an automated, timely format for hotels and hotel marketing companies. Furthermore, Pegasus Business Intelligence intends to provide data in an electronic format to individual travelers or corporate travel departments regarding a particular stay at a hotel, together with information provided by payment card companies, to facilitate automated expense reporting or to ensure travel policy adherence. COMPETITION We compete in a market for hotel-related transaction processing and electronic commerce services that is rapidly evolving, intensely competitive and characterized by continually changing technology and industry standards. 8 9 PEGASUS ELECTRONIC DISTRIBUTION GDS distribution service Our GDS distribution service competes with third-party service providers such as WizCom International, Ltd. Customers may change their electronic reservation interface to WizCom, to another similar service or to hotels directly. Also, some hotels have established a direct connection to one or more global distribution systems rather that through an intermediary, such as Pegasus or WizCom. Other hotels may choose to take the same action. If hotels establish this direct connection, they would bypass Pegasus' intermediary position and eliminate the need to pay our fees. Other hotel room distribution services such as the growing Internet-based services also have a competitive impact. Several factors affecting the competitive success of our GDS distribution service include: - Reliability - Pricing structure - The number of hotel properties using the service - The ability to provide a neutral, comprehensive interface between hotels and other participants in the distribution of hotel rooms - The ability to develop new technological solutions Internet-based distribution services Our TravelWeb.com, private-label reservation service and other Internet-based services face competition in the online hotel room reservation business from current competitors as well as potential new entrants, including other websites. Several competitors have websites offering a more comprehensive range of travel opportunities than we do. These websites include Preview Travel, Travelocity, Expedia.com and TravelNow.com. The costs of entry into the Internet hotel room reservation business are relatively low. There can be no assurance that our Internet-based distribution services will compete successfully. PEGASUS COMMISSION PROCESSING Pegasus Commission Processing faces competition principally from National Processing Company, Citicorp and Perot Systems, Inc. National Processing Company has traditionally provided car rental and cruise line commission processing services. Citicorp and Perot Systems, Inc. have provided commission consolidation services to hotel chains. In addition, hotels that are current or prospective customers of Pegasus Commission Processing can decide to process commission payments without, or in competition with, Pegasus Commission Processing. Furthermore, while Pegasus Commission Processing has agreements with all of its hotel customers, most of its travel agency customers are not bound by any written agreement with us. If a significant portion of these customers stop using Pegasus Commission Processing, it could have a material adverse effect on our business, operating results and financial condition. PEGASUS BUSINESS INTELLIGENCE Pegasus Business Intelligence principally competes with Smith Travel Research, Global Marketing Services and Group 1 Software, Inc., each of which currently provides information services to hotels. Additionally, accounting firms and other businesses currently or may in the future provide information services similar to our current or future service offerings. Competitors may have existing customer relationships that create an obstacle to our acquiring new customers. The current or future information service offerings of existing competitors or new competitors may reduce the attractiveness of Pegasus Business Intelligence services. 9 10 INTELLECTUAL PROPERTY We are continually developing new processing technology and enhancing existing proprietary technology. We have no patents. We primarily rely on a combination of copyright, trade secrets, confidentiality procedures and contractual provisions to protect our technology. Despite these protections, it may be possible for unauthorized parties to copy, obtain or use certain portions of our proprietary technology. While any misappropriation of our intellectual property could have a material adverse effect on our competitive position, we believe that protection of proprietary rights is less significant to our business than the continued pursuit of our operating strategies and other factors, such as our relationship with industry participants and the experience and abilities of our key personnel. We have registered "UltraSwitch," "TravelWeb," "UltraAccess," "HCC Hotel Clearing Corporation," "HCC Link," "HCC Cash," "UltraRes," "Click-It Weekends," "Pegasus Systems, Inc." and "Chain Link" as United States federal trademarks, and an application to register "Powered by Pegasus" is pending with the United States Patent and Trademark Office. Trademark applications for "TravelWeb" and "Powered by Pegasus" also have been filed in Canada and Europe. RESEARCH AND DEVELOPMENT Our research and development activities primarily consist of software development, development of enhanced communication protocols and custom user interfaces and database design and enhancement. As of February 29, 2000, we employed 110 people in our information technology group and from time to time, supplement their efforts by using independent consultants and contractors. This group is comprised of information technology, services development, technical services and product support personnel. Our total research and development expense was $2.4 million, $4.2 million and $2.5 million for 1999, 1998 and 1997, respectively. The research and development expenses for 1998 included a $1.5 million write-off of purchased in-process research and development related to the acquisition of Driving Revenue L.L.C. EMPLOYEES At February 29, 2000, we had 172 employees, 165 of which were located in the United States, with 110 persons in the information technology group, 39 persons performing sales and marketing, customer relations and business development functions and the remainder performing corporate, finance and administrative functions. We had 7 employees in England performing international sales activities. We have no unionized employees. We believe that our employee relations are satisfactory. RISK FACTORS WE ARE GROWING RAPIDLY AND MAY NOT HAVE THE RESOURCES TO EFFECTIVELY MANAGE ADDITIONAL GROWTH. Our recent growth and potential future growth have placed significant demands on management as well as on our administrative, operational and financial resources. Expanding our business to take advantage of new market opportunities will require significant management attention and financial resources. To manage additional growth we must: - Expand our sales, marketing and customer support organizations - Attract and retain additional qualified personnel - Expand our physical facilities - Invest in the development or enhancement of our current services and develop new services that meet changing industry needs - Develop systems, procedures or controls to support the expansion of our operations 10 11 Our inability to manage any additional growth could have a material adverse effect on our business, operating results and financial condition. BECAUSE OUR EXPENSES ARE LARGELY FIXED AND WE CANNOT ACCURATELY PREDICT OUR COMPETITIVE ENVIRONMENT, UNEXPECTED REVENUE SHORTFALLS AND QUARTERLY VARIATIONS MAY ADVERSELY AFFECT OUR BUSINESS. Our expense levels are based primarily on our estimate of future revenues and are largely fixed. In the future, we may not accurately predict the introduction of new or enhanced services by us or our competitors or the degree of customer acceptance of new services. We may also be unable to adjust spending rapidly enough to compensate for any unexpected revenue shortfall. In addition, our past and future operating results vary significantly from quarter to quarter due to a variety of factors, many of which are outside of our control. It is likely that in one or more future quarters our results may fall below the expectations of securities analysts or investors. Any significant shortfall in revenues in relation to our planned expenditures would reduce, and possibly eliminate, any operating income. Due to the fixed nature of our costs, and because operating costs are based on anticipated revenues, a decline in revenue from even a limited number of transactions, failure to achieve expected revenue in any fiscal quarter or unanticipated variation in the recognition of revenues can cause significant variations in operating results from quarter to quarter. This could result in losses in some future quarter or have a material adverse effect on our business, operating results and financial condition. We believe that period-to-period comparisons of our operating results should not be relied upon as an indication of future performance. LOSS OF OUR ARRANGEMENTS WITH KEY CUSTOMERS OR THIRD-PARTY SERVICE ARRANGEMENTS COULD ADVERSELY AFFECT OUR BUSINESS. Our business is dependent upon our customer arrangements with hotel chains, hotel representation firms, travel agencies, travel agency consortia and global distribution systems. In the future, we may be unable to continue or renew these arrangements on favorable terms or initiate new arrangements. If we are unable to renew, continue or initiate customer arrangements on a favorable basis, it could result in a significant reduction in our customer base and revenue sources. We have not entered into any written agreements with most of our travel agency customers relating to Pegasus Commission Processing. We also rely on third parties to provide consolidation, remittance and worldwide currency exchange services for Pegasus Commission Processing and for facility maintenance and disaster recovery services for the computer and communications systems used in all of our services. If we are unable to renew or extend our contracts with current third-party service providers or enter into contracts with alternate service providers on favorable terms, it could have a material adverse effect on our business, operating results and financial condition. OUR FUTURE SUCCESS DEPENDS ON OUR ABILITY TO DEVELOP NEW TECHNOLOGIES AND SERVICES TO MEET THE CHANGING NEEDS OF THE PARTICIPANTS IN THE INTENSELY COMPETITIVE HOTEL INDUSTRY. Our future success depends on our ability to develop leading technologies, enhance our existing services and develop and introduce new services. In particular, our technologies and services must meet the needs of our current and prospective customers. They also must continue to meet the demands of technological advances and emerging industry standards and practices on a timely and cost-effective basis. Although we strive to be a technological leader, future technology advances may not complement or be compatible with our services. In addition, we may be unable to economically and timely incorporate technology changes and advances into our business. We may be unsuccessful in effectively using new technologies, adapting our services to emerging industry standards or developing, introducing and marketing service enhancements or new services. We may also experience difficulties that could delay or prevent the successful development, introduction or marketing of these services. If we are unable to develop and introduce new services or enhance existing services on a timely and cost-effective basis or if new services do not achieve market acceptance, it could have a material adverse effect on our business, operating results and financial condition. 11 12 OUR SUCCESS SIGNIFICANTLY DEPENDS ON THE EXPERIENCE OF OUR KEY PERSONNEL AND OUR ABILITY TO ATTRACT AND RETAIN ADDITIONAL PERSONNEL. Our success depends on the continued service of our executive officers and other key personnel, including our President, John F. Davis, III, and our Chief Operating Officer, Joseph W. Nicholson. Even though we currently have "key-man" insurance covering Messrs. Davis and Nicholson, this insurance amount may not adequately compensate for the loss of their services. We believe that our future business results also depend on our ability to identify, attract, motivate and retain skilled technical personnel. Competition for personnel in the electronic commerce industry is intense. We cannot guarantee that we will be able to successfully identify, attract, motivate and retain other highly-skilled personnel in a timely and effective manner. Our failure to retain our officers and key personnel or to recruit new personnel could have a material adverse effect on our business, operating results and financial condition. AS NEARLY ALL OF OUR REVENUES ARE DERIVED FROM THE HOTEL INDUSTRY, A DOWNTURN IN THE HOTEL INDUSTRY WOULD LIKELY ADVERSELY AFFECT OUR BUSINESS. Nearly all of our revenues are directly or indirectly dependent on the hotel industry. The hotel industry could experience rapid and unexpected downturns. In the event of a downturn in the hotel industry, we would likely experience significantly reduced demand for our services and solutions. Any significant downturn in the hotel industry or any reduction in the demand for hotel rooms and travel generally, would negatively impact our revenues and financial condition. For instance, the hotel industry is highly sensitive to any change in the economic conditions affecting business and leisure travel as well as other unforeseen events. Many factors affect the hotel industry, most of which are beyond our control. The hotel industry and demand for hotel rooms or travel may be affected by, among other things: - Political instability - Regional hostilities - Recession - Gasoline price escalation - Inflation - Any event resulting in significant decreases in demand for hotel rooms or travel - Any decrease in hotel room reservation volumes, which may result from increased competition among hotels - A decrease in the average hotel room rate We may experience substantial period-to-period fluctuations in our results of operations as a consequence of any of these events or the general economic conditions affecting the demand for hotel rooms and travel. REDUCTIONS IN HOTEL COMMISSION PAYMENTS WOULD REDUCE OUR REVENUES AND NET INCOME. Pegasus Commission Processing derives revenues based on the dollar value of travel agency commissions paid by hotels. A substantial portion of our revenues and net income is attributable to Pegasus Commission Processing. If there is any change in the commission payment process or any increase in the direct distribution of rooms by hotels, our revenues and net income could substantially decrease. Hotels typically are under no contractual obligation to pay room reservation commissions to travel agencies. Hotels could elect to reduce the current industry customary commission rate of 10%, limit the maximum commission generally paid for a hotel room reservation or eliminate commissions entirely. For example, Marriott Hotels, a significant customer, has required travel agencies to complete a training course and to sign an agreement in order to continue to receive a 10% commission after November 15, 1999. Failure to do so may result in the travel agency receiving reduced commissions. Hotels increasingly are utilizing other direct distribution channels, like the Internet, or offering negotiated rates to major corporate customers that are non-commissionable to travel agencies. Although we 12 13 have not to date experienced any material reduction in revenues due to these initiatives, there can be no assurance that these initiatives or any other initiative to reduce hotel reservation commissions would not adversely effect on our revenues or net income. RAPID CONSOLIDATION IN THE HOTEL INDUSTRY COULD LOWER THE VALUE OF OUR SERVICES. We offer volume-based discounting of our fees. The recent consolidation in the hotel industry has resulted in a higher percentage of discounted fees, and this trend could continue. In addition, the global distribution system industry has consolidated into four major global distribution systems. If further consolidation occurs, the value of our services and the benefits to hotel operators of utilizing our GDS distribution service would be reduced. Any decrease in our customer base or any increase in the percentage of discounted fees may have a material adverse effect on our business, operating results and financial condition. OUR LIMITED EXPERIENCE IN MANAGING AND INTEGRATING ORGANIZATIONS MAY RESULT IN FUTURE ACQUISITIONS OR JOINT VENTURES BEING DIFFICULT AND DISRUPTIVE. We regularly evaluate acquisition and joint venture opportunities and in the future expect to make acquisitions of other companies or technologies or enter into joint ventures. On November 16, 1999, we entered into a definitive agreement to acquire REZ, Inc., formerly known as REZsolutions, Inc. The agreement is described more fully in this annual report under "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Recent Developments". These acquisitions or joint ventures may divert the time and resources of our management. Further, we have limited experience in integrating newly acquired organizations into our operations. Acquisitions involve many risks including: - Difficulty in integrating or otherwise assimilating technologies, products, personnel and operations - Diversion of management's attention from other business concerns - Issuance of dilutive equity securities and incurrence of debt or contingent liabilities - Large write-offs and amortization expense related to goodwill and other intangible assets - Loss of key employees - Risks of entering markets in which we have no or limited prior experience - Payments of cash, incurrence of debt or assumption of other liabilities to acquire other businesses The result of one or more of these factors could have a material adverse effect on our business, operating results and financial condition. OUR COMPUTER SYSTEMS AND DATABASES MAY SUFFER SYSTEM FAILURES, BUSINESS INTERRUPTIONS OR SECURITY RISKS. Our operations depend on our ability to protect our computer systems and databases against damage or system interruptions from fire, earthquake, power loss, telecommunications failure, unauthorized entry or other events beyond our control. A significant amount of our computer equipment is located at a single site in Phoenix, Arizona. Any unanticipated problems may cause a significant system outage or data loss. Despite the implementation of security measures, our infrastructure may also be vulnerable to break-ins, computer viruses or other disruptions caused by our customers or others. Any damage to our databases, failure of communication links, security breach or other loss that causes interruptions in our operations or compromises the integrity of our systems could have a material adverse effect on our business, operating results and financial condition. WE ARE DEPENDENT TO A SUBSTANTIAL DEGREE ON INTERNET COMMERCE FOR OUR FUTURE GROWTH. The future growth of our Internet-based distribution services depends on the viability of the Internet as a channel for distributing services and products. Our services depend on the expansion of the Internet infrastructure to enable the Internet to support the future demand created by expected growth. Participants in the Internet industry may fail to develop necessary infrastructure or complementary services and products, 13 14 such as high speed modems and high speed communications lines. In addition, there are critical issues concerning the commercial use of the Internet that remain unresolved, including issues relating to security, reliability, cost, ease of use, accessibility and quality of service. If the issues concerning the commercial use of the Internet are not resolved favorably, it could have a material adverse effect on our business, operating results and financial condition. GOVERNMENT REGULATION AND LEGAL UNCERTAINTIES COULD FORCE US TO CHANGE OUR OPERATIONS. Although several aspects of the travel industry are heavily regulated by the United States and other governments, we do not believe the services we offer are currently subject to any material industry-specific government regulation. Any future regulations implemented by federal, state or foreign governmental authorities or affecting one or more of our current or future services could have a material adverse effect on our operations. Our primary customers are hotel chains, hotel representation firms and travel agencies. Although some of our stockholders are customers, we believe that we operate as an entity independent from our stockholders. Any federal, state or foreign governmental authorities, our competitors or our consumers raising anti-competitive concerns regarding our relationship with stockholders that are customers could institute action against us. Any action by federal, state or foreign governmental authorities or allegations by third parties could have a material adverse effect on our business, operating results and financial condition. WE COULD BE SUBJECT TO NEW LAWS AND REGULATIONS RELATING TO THE INTERNET. We are subject to the same federal, state and local laws as other companies conducting business on the Internet. The vast majority of these laws were adopted prior to the advent of the Internet and related technologies and, as a result, do not contemplate or address the unique issues of the Internet and related technologies. Those laws that do reference the Internet have not yet been thoroughly interpreted by the courts and their applicability and reach are therefore uncertain. Today there are relatively few laws specifically directed towards online services. However, due to the increasing popularity and use of the Internet and online services, it is possible that laws and regulations will be adopted with respect to the Internet and online services. These laws and regulations could cover issues like online contracts, user privacy, freedom of expression, pricing, fraud, content and quality of products and services, taxation, advertising, intellectual property rights and information security. Applicability to the Internet of existing laws governing issues such as property ownership, copyrights and other intellectual property issues, taxation, libel, obscenity and personal privacy is uncertain. NEW LEGISLATION AND GOVERNMENTAL REGULATION OF PRIVACY ISSUES RELATING TO THE INTERNET COULD AFFECT OUR OPERATIONS. Changes to existing laws or the passage of new laws intended to address privacy issues could directly affect the way we do business and could create uncertainty in the marketplace. The United States federal government and several states within the United States have proposed legislation that would limit the uses of personal user information gathered online or require online services to establish privacy policies, and some foreign jurisdictions have adopted similar legislation. The United States Federal Trade Commission also has recently settled a proceeding with one online service regarding the manner in which personal information is collected from users and provided to third parties. This could reduce the demand for our services, increase the cost of doing business as a result of litigation costs or increased service delivery costs, or otherwise harm our business. WE MAY BE SUBJECT TO PENALTIES FOR FAILING TO PROPERLY QUALIFY AS A FOREIGN CORPORATION IN VARIOUS JURISDICTIONS DUE TO OUR OPERATIONS AS AN INTERNET COMPANY. Since our services will be accessible worldwide, foreign jurisdictions may require that we comply with their laws. Our failure to comply with foreign laws could subject us to penalties ranging from fines to bans on our ability to offer our services. In the United States, companies are required to qualify as foreign corporations 14 15 in states where they are conducting business. As an Internet company, it is unclear in which states we are actually doing business. Our failure to qualify as a foreign corporation in a jurisdiction where we are required to do so could subject us to taxes and penalties for the failure to qualify and could result in our inability to enforce contracts in those jurisdictions. Any new legislation or regulation, or the application of laws or regulations from jurisdictions whose laws do not currently apply to our business, could adversely affect our business, operating results and financial condition. OUR PLANNED EXPANSION OF INTERNATIONAL OPERATIONS MAY MAKE US SUSCEPTIBLE TO GLOBAL ECONOMIC FACTORS, FOREIGN TAX LAW ISSUES, FOREIGN BUSINESS PRACTICES AND CURRENCY FLUCTUATIONS. Our pursuit of international growth opportunities may require significant investments for an extended period before we realize returns on these investments, if any. Our international operations are subject to particular risks, including: - Difficulties and costs of managing and staffing foreign operations - Inexperience in managing foreign operations - Impact of possible adverse political and economic conditions - Fluctuations in the value of the U.S. dollar relative to other currencies - Potentially adverse tax consequences - Impact of the policies of the United States and foreign governments on foreign trade - Reduced protection for intellectual property rights in some countries - Unexpected changes in regulatory requirements - Cost of adapting our services to foreign markets If we do not realize our expected results from international operations, it could have a material adverse effect on our business, operating results and financial condition. WE MAY BE UNABLE TO ADEQUATELY PROTECT OUR PROPRIETARY RIGHTS OR PREVENT THEIR UNAUTHORIZED USE, WHICH COULD DIVERT OUR FINANCIAL RESOURCES AND HARM OUR BUSINESS. Our success depends upon our proprietary technology, consisting of both our software and hardware designs. We rely upon a combination of copyright, trade secrets, confidentiality procedures and contractual provisions to protect our proprietary technology. Despite our current efforts to protect our proprietary rights, these protective measures may not be enforceable or adequate to prevent misappropriation or independent third-party development of our technology. Many foreign jurisdictions offer less protection of intellectual property rights than the United States. Effective copyright, trademark and trade secret protection may not be available in other jurisdictions. In addition, we may need to litigate claims against third parties to enforce our intellectual property rights, protect our trade secrets, determine the validity and scope of the proprietary rights of others or defend against claims of infringement or invalidity. This litigation could result in substantial cost and diversion of management resources. A successful claim against us could effectively block our ability to use or license our technology in the United States or abroad. If we cannot adequately protect our proprietary rights, it could have a material adverse effect on our business, operating results and financial condition. WE RELY ON TECHNOLOGY LICENSES FROM THIRD PARTIES, THE LOSS OF WHICH MAY HARM OUR ABILITY TO DEVELOP AND SELL OUR SERVICES. We currently and in the future may procure licenses from third parties relating to our services or technology. Our inability to obtain or maintain such licenses could impair our ability to develop and sell our services. Our competitors may obtain licenses with lower royalty obligations or other terms more favorable than those received by us. If we or our suppliers are unable to obtain licenses, we could be forced to market services without certain technological features. Our inability to obtain licenses or to obtain such licenses on 15 16 competitive terms could have a material adverse effect on our business, operating results and financial condition. IF WE ARE UNABLE TO QUICKLY DEVELOP NEW TECHNOLOGIES AND NEW SERVICES TO MEET THE NEEDS OF THE PARTICIPANTS IN THE INTENSELY COMPETITIVE HOTEL INDUSTRY, WE MAY LOSE MARKET SHARE AND BE FORCED TO REDUCE THE PRICES OF OUR SERVICES. We compete in a market that is rapidly evolving, intensely competitive and involve continually changing technology and industry standards. We may not be successful in competing against our current and future competitors. Competitors may be able to respond more quickly than we can to new or emerging technologies, services or changes in customer requirements. We may experience increased competition from current and potential competitors, many of which have significantly greater financial, technical, marketing and other resources than we do. Other participants in the hotel room distribution process, commission processing or business information industries as well as new competitors could create services that are more attractive than our services. Competitive pressures could reduce our market share or require us to reduce the prices of our services. Our inability to compete effectively with these services could have a material adverse effect on our business, operating results and financial condition. Each of our services faces unique competition from within its respective market. For more information about the specific competitive forces facing our services see the section entitled "Competition" on page 8 . OUR STOCK PRICE HAS BEEN AND MAY CONTINUE TO BE EXTREMELY VOLATILE DUE TO MANY FACTORS. Many factors have caused our stock price to be volatile in the past and in the future it may be extremely volatile. Our stock price could be subject to wide fluctuations in response to a variety of factors including the following: - Actual or anticipated variations in our quarterly operating results - Our ability to successfully develop, introduce and market new or enhanced products and services to the hotel industry on a timely basis - Unexpected changes in demand for our services and solutions due to the fixed nature of a large portion of our expenses - Unpredictable volume and timing of customer revenues due to seasonality in the travel industry, the terms of customer contracts and other factors - Our purchasing and payment patterns - Pricing policies of our competitors - Announcements of technological innovations or new services by us or our competitors - Changes in financial estimates by securities analysts - Conditions or trends in the Internet and online commerce industries - Changes in the market valuations of other similarly situated companies - Development in Internet regulations - Announcements by us or our competitors of significant acquisitions, strategic partnerships, joint ventures or capital commitments - Market fluctuations and performance of the hotel industry - Unscheduled system downtime In addition, the trading prices of Internet stocks in general have experienced extreme price and volume fluctuations in recent months. Any negative changes in the public's perception of the prospects of Internet or 16 17 electronic commerce companies or other negative broad market or industry factors could depress our stock price regardless of our operating performance. Market fluctuations, as well as general political and economic conditions, such as recession or interest rate or currency rate fluctuations, also may decrease the market price of our common stock. LITIGATION MAY DIVERT OUR RESOURCES AND REDUCE THE MARKET PRICE OF OUR COMMON STOCK. In some instances, following declines in the market price of a company's securities, securities class-action litigation often has been instituted against that company. Litigation of this type, if instituted against us, could result in substantial costs and a diversion of management's attention and resources, which could have a material adverse effect on our business, operating results and financial condition. PROVISIONS IN OUR CHARTER AND BYLAWS MAY DETER POTENTIAL ACQUISITION BIDS, INCLUDING BIDS WHICH MAY BE BENEFICIAL TO OUR STOCKHOLDERS. Provisions in our certificate of incorporation and bylaws could make it more difficult for a third party to acquire us, even if doing so would be beneficial to our stockholders. Our certificate of incorporation and bylaws provide for a classified board of directors serving staggered terms of three years, prevent stockholders from calling a special meeting of stockholders and prohibit stockholder action by written consent. Our certificate of incorporation also authorizes only the board of directors to fill director vacancies, including newly created directorships, and states that directors may be removed only for cause and only by the affirmative vote of holders of at least two-thirds of the outstanding shares of the voting stock voting together as a single class. These provisions could discourage potential acquisition proposals and could delay or prevent a change in control transaction. They could also discourage others from making tender offers for our shares. As a result, these provisions may prevent the market price of our common stock from reflecting the effects of actual or rumored takeover attempts. These provisions may also prevent significant changes in our board of directors and our management. OUR STOCKHOLDER RIGHTS PLAN MAY DISCOURAGE A THIRD PARTY FROM ACQUIRING CONTROL OF PEGASUS. On September 28, 1998, our board of directors adopted a stockholder rights plan and declared a dividend distribution of one right for each outstanding share of our common stock to stockholders of record at the close of business on October 13, 1998. The number of rights associated with shares of common stock has been proportionally adjusted for the stock split effected in January 2000. Each right entitles the registered holder to purchase from us one one-thousandth of a share of our Series A Preferred Stock for each share of our common stock held at a price of $90. The rights are exercisable only if a person or group of affiliated persons acquires, or has announced the intent to acquire, 20% or more of our common stock. These rights could make it more difficult for a third party to acquire or could discourage a third party from acquiring control of us. DELAWARE LAW MAY DETER POTENTIAL ACQUISITION BIDS FOR OUR BUSINESS, INCLUDING BIDS THAT MAY BE BENEFICIAL TO OUR STOCKHOLDERS. We are subject to the provisions of Delaware law which restrict certain business combinations with interested stockholders even if such a combination would be beneficial to stockholders. These provisions may inhibit a non-negotiated merger or other business combination. The anti-takeover provisions of the Delaware General Corporation Law prevent us from engaging in a "business combination" with any "interested stockholder" for three years following the date that the stockholder became an interested stockholder. For purposes of Delaware law, a "business combination" includes a merger or consolidation involving Pegasus and the interested stockholder and the sale of more that 10% of our assets. In general, Delaware law defines an "interested stockholder" as any entity or person beneficially owning more than 15% of the outstanding voting stock of a corporation and any entity or person affiliated with or controlling or controlled by such entity or person. Under Delaware law, a Delaware corporation may opt out of the anti-takeover provisions. We do not intend to opt out of these anti-takeover provisions. 17 18 ITEM 2. PROPERTIES Our principal executive office is a leased facility with approximately 58,886 square feet of space in Dallas, Texas as of March 1, 2000. We lease this space under a lease agreement that expires December 2002. We also maintain an administrative and sales office in a leased facility with approximately 2,255 square feet of space near London, England. The lease agreement for the office in England expires in February 2006. Under an agreement with REZsolutions, Inc. some equipment owned by us is housed at the facilities of REZsolutions, Inc. in Phoenix, Arizona. Under an agreement with Genuity, Inc. some equipment owned by us is housed at the facilities of Genuity, Inc. in Phoenix, Arizona. We believe that our existing facilities are well maintained and in good operating condition and are adequate for our present and anticipated levels of operations. ITEM 3. LEGAL PROCEEDINGS We are a party from time to time to certain routine legal proceedings arising in the ordinary course of our business. Although the outcome of any legal proceeding cannot be predicted accurately, we do not believe any liability that might result from such proceedings could have a material adverse effect on our business, operating results and financial condition. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matter was submitted to a vote of our stockholders during the fourth quarter of the fiscal year ended December 31, 1999. 18 19 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS (a) Our common stock has been traded on the Nasdaq National Market under the symbol "PEGS" since August 7, 1997. At March 9, 2000, there were approximately 20,353,135 record holders of our common stock although we believe that the number of beneficial owners of our common stock is substantially greater. The market prices set forth below have been adjusted to reflect a three-for-two stock split effected on January 7, 2000 in the form of a stock dividend to all stockholders of record on December 20, 1999.
HIGH LOW ------ ------ 1999 Fourth quarter.............................................. $54.42 $24.17 Third quarter............................................... $29.75 $19.33 Second quarter.............................................. $32.92 $20.75 First quarter............................................... $30.67 $16.67 1998 Fourth quarter.............................................. $24.17 $ 5.92 Third quarter............................................... $17.92 $ 7.17 Second quarter.............................................. $20.67 $14.67 First quarter............................................... $18.08 $ 9.08 1997 Fourth quarter.............................................. $13.83 $ 8.33 Third quarter............................................... $12.83 $10.33
We intend to retain any future earnings for use in our business and do not intend to pay cash dividends in the foreseeable future. The payment of future dividends, if any, will be at the discretion of our board of directors and will depend, among other things, upon future earnings, operations, capital requirements, restrictions in future financing agreements, our general financial condition and general business conditions. On September 28, 1998, our board of directors declared a dividend distribution of one right for each outstanding share of our common stock to stockholders of record at the close of business on October 13, 1998. Each right entitles the registered holder to purchase from us one one-thousandth of a share of our series A preferred stock for each share of our common stock held at a price of $90. The number of rights associated with shares of common stock has been proportionally adjusted for the stock split effected in January 2000. The rights are exercisable only if a person or group of affiliated persons acquires, or has announced the intent to acquire, 20% or more of our common stock. (b) The Securities and Exchange Commission on August 6, 1997 declared effective the Registration Statement on Form S-1 (File No. 333-28595) relating to the initial public offering ("IPO") of our common stock. 19 20 ITEM 6. SELECTED FINANCIAL DATA The following selected consolidated financial data as of and for the years ended December 31, 1999 and 1998 and for the year ended December 31, 1997 are derived from the consolidated financial statements of Pegasus that have been audited by PricewaterhouseCoopers LLP, independent accountants, and are included as Item 8 of this annual report on Form 10-K. Selected consolidated financial data as of December 31, 1997 and as of and for the year ended December 31, 1996 are derived from Pegasus' financial statements that have been audited by PricewaterhouseCoopers LLP, but are not included herein. The selected consolidated financial data as of and for the year ended December 31, 1995 are derived from Pegasus' financial statements that have been audited by Belew Averitt LLP, independent accountants, but are not included herein. The data should be read in conjunction with Management's Discussion and Analysis of Financial Condition and Results of Operations included as Item 7 of this annual report on Form 10-K and with Pegasus' consolidated financial statements and notes thereto.
1999 1998 1997 1996 1995 ------- ------- ------- -------- ------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Net revenues................................ $38,036 $29,064 $20,903 $ 15,869 $ 9,296 Net income (loss)(1)........................ 8,666 5,396 589 (3,485) (3,571) Net income (loss) per share(1)(2) Basic..................................... 0.47 0.34 0.05 (0.44) (0.87) Diluted................................... 0.44 0.32 0.05 (0.44) (0.87) Working capital (deficit)................... 143,605 44,398 38,397 2,068 (1,560) Total assets................................ 163,540 60,320 49,923 13,892 10,316 Long-term obligations, net of current portion................................... -- 58 661 6,353 6,994 Total stockholders' equity (deficit)........ 156,771 54,264 43,478 1,954 (2,380)
- --------------- (1) Pegasus' selected consolidated financial data includes the depreciation and amortization of the following: - Acquisition of 83.3% of the outstanding capital stock of The Hotel Clearing Corporation ("HCC") in July 1995 - Acquisition of the remaining 16.7% of the outstanding capital stock of HCC in June 1996 - Acquisition of Driving Revenue L.L.C. ("Driving Revenue") in August 1998 Amortization applicable to the acquisition of HCC totaled approximately $798,000, $1,534,000, $1,412,000, $645,000 in 1998, 1997, 1996 and 1995, respectively. Amortization applicable to Driving Revenue totaled approximately $416,000 and $125,000 in 1999 and 1998, respectively. (2) Certain net income (loss) per share amounts were retroactively adjusted for a one hundred-for-one stock split that occurred in June 1996, a four-for-three stock split that occurred in August 1997 and a three-for- two stock split that occurred in January 2000. Such calculations reflect the adoption of Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("FAS 128") in 1997. In accordance with FAS 128, all prior periods presented were restated. 20 21 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis should be read in conjunction with the selected consolidated financial data included as Item 6 of this annual report on Form 10-K and the consolidated financial statements and notes thereto included as Item 8 of this annual report on Form 10-K. This discussion and analysis contains certain forward-looking statements that involve risks and uncertainties. Pegasus' actual results and the timing of certain events could differ materially from those discussed in the forward-looking statements as a result of several factors including those set forth in Pegasus' filings with the Securities and Exchange Commission, specifically including the risk factors set forth under Item 1 of this annual report on Form 10-K. OVERVIEW Pegasus is a leading provider of transaction processing and electronic commerce services to the hotel industry worldwide. Pegasus is organized into three businesses: Pegasus Electronic Distribution, Pegasus Commission Processing and Pegasus Business Intelligence. Pegasus Electronic Distribution. Pegasus Electronic Distribution includes the GDS distribution service and Internet-based distribution services. These services improve the efficiency and effectiveness of the hotel reservation process by enabling travel agents and individual travelers to electronically access hotel room inventory information and conduct reservation transactions. Our GDS distribution service provides an electronic interface between a hotel's central reservation system and the global distribution systems that travel agents use to book hotel and airline reservations. Pegasus derives revenues from this service by charging hotel participants a fee based on the number of reservations made, less the number cancelled ("net reservations"), and a fee for "status messages" processed through the GDS distribution service. Status messages are electronic messages sent by hotels to global distribution systems to update room rates, features and availability information in global distribution system databases. As a hotel's cumulative volume of net reservations increases during the course of the calendar year, its fee per transaction decreases after predetermined transaction volume hurdles have been met. As a result, for higher volume customers, unit transaction fees are higher at the beginning of the year, when cumulative transactions are lower. Pegasus recognizes revenues based on the fee per transaction that a customer is expected to pay during the entire year. Pegasus' interim balance sheets reflect a liability for the difference between the fee per transaction that Pegasus actually bills a customer during the period and the average fee per transaction that a customer is expected to pay for the entire year. The liability created during the early periods of the year is eliminated by the end of each year as the fee per transaction that Pegasus actually bills a customer falls below the average fee per transaction for the entire year. Pegasus offers volume-based discounting of the GDS distribution service fees. The recent consolidation in the hotel industry has resulted in a lower average fee per transaction for the GDS distribution service. Despite increases in the number of transactions, revenues generated from the GDS distribution service have remained consistent with prior periods. Pegasus expects this trend to continue. Additionally, Pegasus generally charges new participants in the GDS distribution service a one-time set-up fee for work performed to establish the connection between a hotel's central reservation system and the Pegasus electronic distribution technology. Revenue for these one-time set-up fees is recognized ratably over the set-up period, which generally ranges from two to four months. During the set-up period, Pegasus establishes an electronic communication link with the hotel's central reservation system and performs testing to ensure proper delivery of data and transactions between the hotel and each distribution channel. Pegasus also charges some global distribution systems a fee based on either the number of net reservations or the number of hotels connected to the global distribution system to compensate for the management and consolidation of multiple interfaces. Our Internet-based distribution services provide online hotel reservation capabilities to travelers via our TravelWeb.com website (www.travelweb.com) and our private-label reservation service. To participate in the Internet-based distribution services, hotels pay Pegasus subscription fees based on the number of the hotel company's properties in Pegasus' online distribution database. For reservations that originate on the 21 22 TravelWeb.com website, Pegasus charges either a transaction fee based on the number of net reservations made at participating properties or a commission based on the value of the guest stay. For reservations that originate on websites using the private-label reservation service, Pegasus charges transaction fees based on the number of net reservations made at participating properties. Private-label reservation customers also pay initial development fees and either monthly subscription or maintenance fees. Initial development fees are for establishing an electronic communication link between the hotel's central reservation system and third-party websites. Maintenance fees are for the management of the communication link and the online distribution database. Pegasus Commission Processing. Pegasus Commission Processing provides hotel commission payment processing. Pegasus Commission Processing improves the efficiency and effectiveness of the commission payment process for participating hotels and travel agencies by consolidating payments, paying in local currency and providing comprehensive transaction reports. Pegasus Commission Processing derives revenues by charging a participating travel agency a fee based on a percentage of the commissions paid by hotels and hotel chains that are processed by Pegasus on behalf of that agency. Pegasus also generally charges a participating hotel a fee based on the number of commissionable transactions arising from that hotel that are processed by Pegasus. Revenues from travel agency fees can vary substantially from period to period based on the types of hotels at which reservations are made and fluctuations in overall room rates. Pegasus Commission Processing recognizes revenues in the month in which the hotel stay occurs. In the following month, Pegasus collects commissions from the hotels by the 12th business day of the month and pays commissions to travel agencies by the 15th business day of the month. If a hotel fails to deliver funds to Pegasus, Pegasus is not obligated to deliver commission payments on behalf of the hotel to travel agencies. During 1999, Pegasus processed approximately $321 million in commissions for participating agencies. Pegasus typically retains as its commission processing fee approximately 5% of the commissions processed on behalf of the participating agency. Pegasus Business Intelligence. Pegasus Business Intelligence provides database marketing and consulting services. Pegasus Business Intelligence also is being expanded to provide services that search and organize data into meaningful information for competitive analysis and strategic planning for the hotel industry. Pegasus Business Intelligence revenues consist of fees charged to hotels for the development of hotel databases and for consulting services. Historically, Pegasus has derived a majority of its revenues from its electronic distribution and commission processing services. For the year ended December 31, 1999, approximately 47% of consolidated revenues were derived from Pegasus Electronic Distribution, approximately 48% of consolidated revenues were derived from Pegasus Commission Processing and approximately 5% of consolidated revenues were derived from Pegasus Business Intelligence. Pegasus has experienced substantial growth since its inception. However, there can be no assurance that Pegasus will experience the same rate of revenue growth in the future. Any significant decrease in the rate of revenue growth could have a material adverse effect on Pegasus' operating results and financial condition. Pegasus has developed or is in the process of developing several new services to capitalize on its existing technology and customer base and to provide additional electronic hotel reservation capabilities and information services to its existing customers and to other participants in the hotel room distribution process. Pegasus Electronic Distribution has introduced services that automate the processing of hotel bookings for large meetings and conventions and for corporate travelers. Pegasus Business Intelligence intends to introduce data mining and reporting services for benchmark analysis and strategic planning for the hotel industry. Pegasus has not received a material amount of revenue from these services, and there can be no assurance that any of these services will produce a material amount of revenue in the future. 22 23 Pegasus' future success will depend, in part, on its ability to: - Develop leading technologies - Enhance existing services - Develop and introduce new services that address the increasingly sophisticated and varied needs of current and prospective customers - Respond to technological advances and emerging industry standards and practices on a timely and cost-effective basis Pegasus' cost of services consists principally of personnel costs relating to information technology, facilities and equipment maintenance costs and fees paid to the processing bank for processing travel agency commissions. Research and development costs consist principally of personnel costs, related overhead costs and fees paid to outside consultants. General and administrative expenses are primarily personnel, office, legal and accounting related. Marketing and promotion expenses consist primarily of personnel costs, advertising, amortization of customer incentive contracts, public relations and participation in trade shows and other industry events. Depreciation and amortization expense includes depreciation of computer equipment, office furniture, office equipment and leasehold improvements as well as amortization of software and goodwill. Interest expense includes interest on notes payable to certain stockholders of Pegasus and interest on payments made under capital equipment leases. RECENT DEVELOPMENTS On November 16, 1999, Pegasus entered into a definitive agreement to acquire Phoenix-based REZ, Inc., formerly known as REZsolutions, Inc., a leader in providing distribution services and solutions for the hotel industry. Under the terms of the agreement, Pegasus will issue 3.99 million shares of common stock, pay $115.0 million in cash and agree to a $20.0 million note payable to Utell International Ltd., a subsidiary of Reed Elsevier plc, a substantial REZ stockholder. Based on a five day average stock price of $31.775, the transaction is valued at approximately $260 million subject to closing balance sheet adjustments. The average stock price was determined using two days before, the day of and two days after the agreement was announced. The acquisition is expected to close during the first quarter of 2000 and will be recorded under the purchase method of accounting. For more information regarding this transaction, refer to our Registration Statement on Form S-4, as amended (File No. 333-72683). YEARS ENDED DECEMBER 31, 1999 AND 1998 Net revenues. Net revenues for 1999 increased to $38.0 million from $29.1 million in 1998, an increase of 30.9%. The increase in revenues was primarily driven by higher transaction levels for Pegasus Electronic Distribution and Pegasus Commission Processing as well as the acquisition of Driving Revenue in August 1998, which provided the majority of Pegasus Business Intelligence revenues for 1999. Pegasus Electronic Distribution revenues increased $5.6 million, or 45.3%, in 1999 compared to 1998. The increase resulted primarily from a 28.2% increase in the number of hotel reservations made through the GDS and Internet-based distribution services. Although GDS revenue per transaction decreased in 1999 compared to 1998, total transaction revenue per transaction increased 7.2% due to a higher percentage of Internet-based transactions, which generate more revenue per transaction. A $1.7 million increase in non-transaction related revenues also contributed to the increase in total electronic distribution revenues. Non-transaction related revenues include implementation fees, subscription fees and advertising revenues. Pegasus Commission Processing revenues increased 14.7% in 1999 compared to 1998 as a result of a 22.4% increase in the number of hotel commission transactions processed. The increase in the number of transactions was due in part to an increase in the number of hotel properties and travel agencies participating in Pegasus Commission Processing. The value of commissions paid by Pegasus increased 25.6% in 1999 compared to 1998 because of an increase in the number of hotel commission transactions processed combined with an increase in the average value of commissions processed. Net revenues arising from the increase in 23 24 commissions paid was somewhat offset by a reduction in the average fee received from participating travel agencies for consolidating and remitting hotel commission payments. Pegasus expects this trend to continue. Pegasus Business Intelligence revenues increased $1.1 million to $2.0 million in 1999 from $0.9 million for 1998. The increase was due to the acquisition of Driving Revenue L.L.C. in August 1998. Pegasus Business Intelligence revenues consisted of fees charged to hotels for the development and maintenance of hotel databases and for consulting services. Pegasus Business Intelligence had net pretax losses of approximately $4.0 million and $2.8 million for 1999 and 1998, respectively. During 1999, Pegasus continued to invest in technology and personnel to grow this segment. During 1999, Pegasus also invested heavily in the development of marketing and sales personnel to increase customer awareness of Pegasus Business Intelligence services and products. Pegasus expects this segment to continue to have losses in the foreseeable future. However, Pegasus expects the losses to decline as this segment develops new products, builds its customer base and increases revenues. Cost of services. Cost of services increased by $2.5 million, or 25.4%, to $12.2 million in 1999 from $9.7 million in 1998. Cost of services increased due to additional staffing primarily related to new business intelligence services. The number of technology personnel increased 25.6% at December 31, 1999 compared to December 31, 1998. In addition, Pegasus incurred approximately $104,000 in 1999 for enhancing its infrastructure. These enhancements included upgrades to e-mail and wide area networks. This increase was partially offset by a $727,000 decrease in costs associated with Pegasus Commission Processing during the first half of 1999 as some functions that were previously outsourced were brought in-house at a lower cost during the third quarter of 1998. Research and development. Research and development expenses decreased $0.3 million, or 11.5%, to $2.4 million in 1999 from $2.7 million in 1998. In 1999, research and development expenses were primarily related to the development of business intelligence services while 1998 expenses included a major commission processing project, which was completed in the third quarter 1998. This commission processing project was comprised of internally developed software and procedures to sort and consolidate commissions by travel agency. Prior to the completion of this project, this process was outsourced. Write-off of purchased in-process research and development. During 1998, Pegasus incurred a charge of $1.5 million to write-off purchased in-process research and development related to the acquisition of Driving Revenue in August 1998. Based on a third party valuation, approximately $1.5 million of the purchase price was allocated to in-process research and development projects that at the time of the acquisition had not reached technological feasibility and had no probable alternative future use. In determining the valuation Pegasus identified eight projects as in-process research and development. Of these eight, three were associated with a market planner product, three with a database product and two were Internet-enabled query tools. Each project was estimated to have a specific revenue stream that was assumed to generate a 20% cash flow margin over a ten-year period. Each project was determined to be at a certain stage of completion ranging from 10% to 70%, and these factors were applied to the present value of each project's future cash flows using a 30% discount rate. The resulting $1.5 million valuation was charged to operations in 1998. Subsequent to the Driving Revenue acquisition, Pegasus re-evaluated the role of the market planner product. Since the market planner is a stand-alone software sale that does not fit with Pegasus' business strategy, Pegasus has elected to stop selling it and terminated work on the development of the three market planner projects. Pegasus has elected to focus its efforts on projects that better fit with its strategy of producing recurring revenues from customers. Pegasus management believes that the decision not to develop the acquired technology will have no impact on future results of operations or financial position. Pegasus has continued developing new database tools and has completed the major elements of the new database project as of January 2000. The cost to complete the project was approximately $1.0 million, which is roughly consistent with Pegasus' earlier projections. The new database capability is being rolled out to Pegasus' customer base. 24 25 Pegasus is continuing to work on Internet-enabled query tools and expects that these will be available in future years as estimated in the original cash flows used in determining the purchased in-process research and development charge in 1998. General and administrative expenses. General and administrative expenses increased $1.0 million, or 23.0%, to $5.5 million in 1999 from $4.4 million in 1998. The increase was primarily due to higher personnel expenses and office costs including rent, telephone, travel and supplies associated with increased headcount. Personnel and office costs increased approximately $841,000 in 1999 compared to 1998. In addition, accounting and legal expenses increased approximately $113,000 as a result of additional reporting and consulting services necessary due to increasingly complex tax, legal and reporting issues associated with Pegasus' growth over the past year. Marketing and promotion expenses. Marketing and promotion expenses increased $1.1 million, or 23.1%, to $5.9 million in 1999 from $4.8 million in 1998. Marketing and promotion expenses increased primarily due to a 26.1% increase in the number marketing and sales personnel and the related recruiting and relocation costs. The additional sales and marketing personnel were needed to promote commission processing services, Internet-based distribution services and new business intelligence services. Depreciation and amortization. Depreciation and amortization expenses decreased $0.3 million, or 9.4%, to $2.4 million in 1999 from $2.7 million in 1998. Amortization expense decreased $507,000 in 1999 as compared to 1998 because goodwill and capitalized software associated with the purchase accounting transaction that formed Pegasus was fully amortized as of the beginning of the fourth quarter of 1998. The related amortization expense was $798,000 in 1998. The decrease in amortization expense was somewhat offset of by an additional $291,000 for the amortization of goodwill and software related to the acquisition of Driving Revenue in August 1998. Depreciation expense increased $253,000 in 1999 as compared to 1998 due to additions of property and equipment. The increase in depreciation expense was partially offset because the former computing platform for Pegasus Electronic Distribution was fully depreciated and replaced in 1999 with less expensive equipment resulting in lower depreciation expense. Interest income. Interest income increased $2.3 million, or 92.9%, to $4.8 million in 1999 from $2.5 million in 1998. Interest income increased as Pegasus had additional cash available for short-term investment as a result of the secondary public offering of common stock in May 1999. The increase was partially offset by a decline in the prevailing interest rate level for short-term investments during the first three quarters of 1999 combined with a shift in the investment portfolio to include tax-exempt securities with lower pre-tax yields. Interest expense. Interest expense decreased $120,000, or 81.8%, to $27,000 in 1999 from $147,000 in 1998. Interest expense reflects payments made under capital equipment leases, and the decrease is due to the expiration of some leases. Write-off of minority interest investment. In September 1998, Pegasus purchased a minority interest in Intermezzo, Inc. The Intermezzo board of directors elected to cease operations in July 1999 and entered into an orderly plan of liquidation. Pegasus wrote-off $1.1 million in the second quarter of 1999 representing its entire investment in Intermezzo. Income taxes. Income taxes for 1999 reflect federal, state and foreign income taxes payable. Income taxes for 1998, include only state and foreign taxes as Pegasus was able to realize the benefit of its federal net operating loss carryforwards in 1998. The effective tax rate of approximately 35.1% for 1999 increased from the effective tax rate of approximately 3.5% for 1998. The lower effective tax rate in 1998 was due to Pegasus' ability to realize the benefit of net operating loss carryforwards. YEARS ENDED DECEMBER 31, 1998 AND 1997 Net revenues. Net revenues for 1998 increased to $29.1 million from $20.9 million in 1997, an increase of 39.0%. The increase in revenues was primarily driven by higher transaction levels for Pegasus Electronic Distribution and Pegasus Commission Processing as well as revenue derived from Pegasus Business Intelligence. 25 26 Pegasus Electronic Distribution revenues increased 24.8% in 1998 compared to 1997 primarily due to an increase in the number of hotel reservations made through TravelWeb.com and an increase in the average fee earned per transaction. In addition, there was an increase in the number of hotel reservations made through other Internet sites that use the private-label distribution service. Also, more hotel companies paid fees to be listed in the online distribution database. Net reservations made through the GDS and Internet-based distribution services increased by 22.6% in 1998 compared to 1997, but this increase was offset by a 5.9% reduction in the total transaction revenue per reservation. As a result of the lower average fee per reservation, net revenues from the GDS distribution service remained consistent with the prior year. Pegasus Commission Processing revenues increased 43.6% in 1998 compared to 1997 as a result of a 34.4% increase in the number of hotel commission transactions processed. The increase in the number of transactions was due in part to an increase in the number of hotel properties and travel agencies participating in Pegasus Commission Processing. The value of commissions paid to travel agencies by Pegasus increased 48.5% in 1998 compared to 1997 because of an increase in the number of hotel commission transactions processed combined with an increase in the average value of the commissions processed. The average value of commissionable transactions processed increased due to rising overall average daily rates for hotel rooms as well as a higher proportion of transactions generated by full-service and luxury hotel chains. Net revenues arising from the increase in commissions paid was somewhat offset by a reduction in the average fee received from participating travel agencies for consolidating and remitting hotel commission payments. Pegasus Business Intelligence revenues were $903,000 for 1998 and consisted of fees charged to hotels for the development and maintenance of hotel databases and for consulting services. Pegasus Business Intelligence had pretax losses of approximately $2.8 million and $570,000 in 1998 and 1997, respectively. As a start-up business, this segment had technology development costs and no revenues until Pegasus acquired Driving Revenue in August 1998. In 1998, Pegasus incurred additional technology development costs as well as a write-off of purchased in-process research and development and goodwill amortization related to the Driving Revenue acquisition. Pegasus expects this segment to have significant losses in the foreseeable future as it continues to invest in technology and personnel to grow this business. Cost of services. Cost of services increased by $2.3 million, or 30.5%, to $9.7 million in 1998 from $7.4 million in 1997. Cost of services increased due to additional staffing, higher pay rates for technology personnel and the increased number of Pegasus Commission Processing transactions, which added to the fees paid to the processing bank. Research and development. Research and development expenses increased $170,000, or 6.8%, to $2.7 million in 1998 from $2.5 million in 1997. This increase was primarily due to expenditures relating to the development of business intelligence services. Write-off of purchased in-process research and development. During 1998, Pegasus incurred a charge of $1.5 million to write-off purchased in-process research and development related to the acquisition of Driving Revenue in August 1998. Based on a third-party valuation, approximately $1.5 million of the purchase price was allocated to in-process research and development projects that at the time of the acquisition had not reached technological feasibility and had no probable alternative future use. General and administrative expenses. General and administrative expenses increased $727,000, or 19.6%, to $4.4 million in 1998 from $3.7 million in 1997. The increase was primarily due to additional costs associated with operating as a public company. These costs increased approximately $190,000 in 1998 as compared to 1997 and include legal, accounting, insurance, printing and reporting costs. In addition, office costs, which include rent, telephone, travel and supplies, increased approximately $288,000 in 1998 as compared to 1997. Personnel expenses also increased approximately $165,000 in 1998 as compared to 1997. Office and personnel expenses increased because of an increase in headcount. Marketing and promotion expenses. Marketing and promotion expenses increased $826,000, or 20.7%, to $4.8 million in 1998 from $4.0 million in 1997. Marketing and promotion expenses grew primarily due to the addition of sales and marketing staff, which were needed to promote Pegasus Electronic Distribution and Pegasus Commission Processing. 26 27 Depreciation and amortization. Depreciation and amortization expenses decreased $327,000, or 10.8%, to $2.7 million in 1998 from $3.0 million in 1997. Amortization expense decreased $611,000 in 1998 as compared to 1997 because goodwill and capitalized software associated with the purchase accounting transaction that formed Pegasus was fully amortized as of the beginning of the fourth quarter of 1998. The decrease in amortization was somewhat offset by an additional $125,000 for the amortization of goodwill and software related to the acquisition of Driving Revenue in August 1998. Depreciation expense increased $285,000 in 1998 as compared to 1997 due to additions of property and equipment. Interest income. Interest income increased $1.5 million to $2.5 million in 1998 from $994,000 in 1997. Interest income increased as a result of short-term investment of operating cash balances and of a portion of the proceeds from Pegasus' secondary offering of common stock in February 1998. In addition, 1998 included a full year of interest income earned on proceeds from Pegasus' initial public offering of common stock in August 1997. Interest expense. Interest expense decreased $453,000, or 75.5%, to $147,000 in 1998 from $600,000 in 1997. The 1998 expense reflects payments made under capital equipment leases. The 1997 expense consisted of interest accrued on promissory notes payable to some Pegasus stockholders as well as interest accrued on payments made under capital equipment leases. Pegasus repaid all of its promissory notes in August 1997 using a portion of the proceeds from its initial public offering. Income taxes. Income taxes for 1998 reflect state and foreign income taxes payable as Pegasus was able to realize the benefit of its federal net operating loss carryforwards. In accordance with Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes," Pegasus released a significant portion of the valuation allowance in the fourth quarter of 1998, as management believed it was more likely than not that the net deferred tax asset would be realized. The conclusion to release the valuation allowance was based on Pegasus' historical trend of positive operating results as well as management's earnings projections for 1999 and beyond. Income taxes for 1997 reflect foreign income taxes payable with respect to the taxable earnings of Pegasus' United Kingdom subsidiary, which reports earnings on a cost-plus basis. In 1997, the net deferred tax asset was fully reserved because of uncertainty regarding Pegasus' ability to realize the benefit of the asset in future years. LIQUIDITY AND CAPITAL RESOURCES Pegasus' principal sources of liquidity at December 31, 1999 included cash and cash equivalents of $104.6 million, short-term investments of $35.3 million and restricted cash of $2.9 million. Pegasus' principal sources of liquidity at December 31, 1998 included cash and cash equivalents of $25.0 million, short-term investments of $15.8 million and restricted cash of $2.1 million. Restricted cash represents funds for travel agency commission checks that were never submitted to the bank by travel agencies for payment within one year of their original issuance. After one year, the bank places a stop on the outstanding travel agency commission checks and returns the funds to Pegasus. Pegasus records, in an accrued liability account, an amount equal to the restricted cash recorded upon receipt of the funds from the bank. The reasons for the checks not clearing include travel agencies going out of business, change in address or the checks being lost. The returned funds are repaid to the original travel agency if they can be located or if not then to their state of residence as required by the unclaimed property laws of their state. Working capital increased to $143.6 million in 1999 from $44.4 million in 1998, and net cash provided by operating activities increased to $13.9 million in 1999 from $6.8 million in 1998 due to Pegasus' improved operating performance. Capital expenditures consisted of purchases of software, furniture and computer equipment as well as internally developed software costs and amounted to $3.4 million in 1999 compared to $1.7 million in 1998. Additional uses of cash for investing activities in 1999 included the purchase of marketable securities. Additional uses of cash for investing activities in 1998 included the purchase of Driving Revenue, strategic minority equity investments and marketable securities. Pegasus has financed its cash requirements for investments primarily through cash generated from operations and the sale of capital stock. Pegasus estimates 27 28 that its capital expenditures during 2000 will approximate $3.0 million primarily related to adding capacity to existing systems. Proceeds from the exercise of stock options were $2.2 million and $0.3 million in 1999 and 1998, respectively. Pegasus completed a secondary offering of its common stock in February 1998, raising net proceeds of $4.2 million. A portion of the proceeds was used to repay certain lease obligations, with the remaining proceeds placed in short-term marketable securities. In May 1999, Pegasus completed a follow-on offering of common stock raising net proceeds of $84.4 million. Pegasus is currently using the net proceeds from this offering for working capital and other general corporate purposes, with the remaining amount placed in short-term marketable securities. On November 16, 1999, Pegasus entered into a definitive agreement to acquire Phoenix-based REZ, Inc., formerly known as REZsolutions, Inc., a leader in providing distribution services and solutions for the hotel industry. Under the terms of the agreement, Pegasus will issue 3.99 million shares of common stock, pay $115.0 million in cash and agree to a $20.0 million note payable to Utell International Ltd., a subsidiary of Reed Elsevier plc, a substantial REZ stockholder. Pegasus intends to liquidate its short-term marketable securities to generate the cash needed for the transaction. Our future liquidity and capital requirements will depend on numerous factors, including: - Our profitability - Operational cash requirements - Competitive pressures - Development of new services and applications - Acquisition of complimentary businesses or technologies - Response to unanticipated cash requirements Pegasus believes that the liquidity and cash flow from operations of the Company after the closing of the merger, together with funds available from future debt financing, will be sufficient to meet its foreseeable operating and capital requirements through at least the end of 2000. Pegasus may consider other financing alternatives to fund its requirements, including possible public or private debt or equity offerings. However, there can be no assurance that any financing alternatives sought by Pegasus will be available or will be on terms that are attractive to Pegasus. Further, any debt financing may involve restrictive covenants, and any equity financing may be dilutive to stockholders. INFLATION Pegasus does not believe that inflation has materially impacted results of operations during the past three years. Substantial increases in costs and expenses could have a significant impact on its results of operations to the extent such increases are not passed along to customers. RECENTLY ISSUED ACCOUNTING STANDARDS In March 1998, the American Institute of Certified Public Accountants issued Statement of Position No. 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use" ("SOP 98-1"). SOP 98-1 requires that certain costs related to the development or purchase of internal-use software be capitalized and amortized over the estimated useful life of the software. SOP 98-1 is effective for financial statements for fiscal years beginning after December 15, 1998. Accordingly, Pegasus adopted SOP 98-1 effective January 1, 1999 for costs incurred related to voice recognition software and enhancements to the online distribution database. 28 29 In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("FAS 133"). FAS 133 requires that all derivative instruments be recorded on the balance sheet at fair value. Changes in the fair value of derivative instruments are recorded each period in current earnings or other comprehensive income, depending on whether a derivative is designated as part of a hedge transaction. FAS 133, as amended by Statement of Financial Accounting Standards No. 137, "Accounting for Derivative Instruments and Hedging Activities-Deferral of Effective Date of FAS 133", is effective for Pegasus' first quarter financial statements in fiscal 2001. Pegasus is not currently involved in derivative instruments or hedging activities, and therefore, will measure the impact of this statement as it becomes necessary. On December 3, 1999, the Securities and Exchange Commission released Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue Recognition in Financial Statements," which summarizes some of the Staff's views in applying generally accepted accounting principles to revenue recognition in financial statements. The Staff is providing this guidance due, in part, to the large number of revenue recognition issues that registrants encounter. The application of SAB 101 to revenue recognition for one-time set-up fees currently has an immaterial effect on Pegasus' consolidated statement of operations. Pegasus will apply SAB 101 on a prospective basis for fiscal years beginning after December 31, 1999. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK None. 29 30 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of Pegasus Systems, Inc. In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations and changes in stockholders' equity and of cash flows present fairly, in all material respects, the financial position of Pegasus Systems, Inc. and its subsidiaries at December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1999 in conformity with accounting principles generally accepted in the United States. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. PricewaterhouseCoopers LLP Dallas, Texas February 10, 2000 30 31 PEGASUS SYSTEMS, INC. CONSOLIDATED BALANCE SHEETS DECEMBER 31, 1999 AND 1998 ASSETS
1999 1998 ------------ ----------- Cash and cash equivalents................................... $104,616,147 $25,002,185 Restricted cash............................................. 2,928,680 2,106,676 Short-term investments...................................... 35,282,524 15,768,400 Accounts receivable, net of allowance for doubtful accounts of $81,701 and $98,633, respectively...................... 4,854,185 3,687,518 Other current assets........................................ 2,585,247 3,689,254 ------------ ----------- Total current assets.............................. 150,266,783 50,254,033 Capitalized software, net................................... 1,287,422 869,619 Property and equipment, net................................. 3,568,212 2,635,068 Goodwill, net of accumulated amortization of $937,922 and $522,018, respectively.................................... 2,890,077 4,238,071 Other noncurrent assets..................................... 5,527,274 2,323,620 ------------ ----------- Total assets...................................... $163,539,768 $60,320,411 ============ =========== LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable and accrued liabilities.................... $ 6,162,314 $ 4,715,018 Unearned income............................................. 62,640 258,667 Current portion of capital lease obligations................ 52,564 535,072 Customer deposits........................................... 383,966 347,422 ------------ ----------- Total current liabilities......................... 6,661,484 5,856,179 Capital lease obligations, net of current portion........... -- 57,634 Other noncurrent liabilities................................ 106,788 142,380 Commitments and contingencies (Note 11)..................... -- -- Stockholders' equity: Preferred stock, $.01 par value; 2,000,000 shares authorized; Zero shares issued and outstanding......... -- -- Common stock, $.01 par value; 50,000,000 shares authorized, 20,515,050 and 15,980,056 shares issued, respectively........................................... 205,151 159,801 Additional paid-in capital................................ 156,978,043 63,330,637 Unearned compensation..................................... (442,106) (615,636) Accumulated comprehensive loss (Note 4)................... (24,905) -- Retained earnings (deficit)............................... 81,651 (8,584,246) Less treasury stock (174,726 shares, at cost)............. (26,338) (26,338) ------------ ----------- Total stockholders' equity........................ 156,771,496 54,264,218 ------------ ----------- Total liabilities and stockholders' equity........ $163,539,768 $60,320,411 ============ ===========
See accompanying notes to consolidated financial statements. 31 32 PEGASUS SYSTEMS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997 ----------- ----------- ----------- Net revenues (Note 1)................................. $38,036,269 $29,064,467 $20,903,416 Cost of services...................................... 12,180,188 9,716,854 7,445,271 Research and development.............................. 2,367,107 2,673,628 2,504,074 Write-off of purchased in-process research and development (Note 2)................................ -- 1,480,085 -- General and administrative expenses................... 5,462,895 4,442,557 3,715,547 Marketing and promotion expenses...................... 5,936,256 4,823,787 3,998,054 Depreciation and amortization......................... 2,437,410 2,689,867 3,016,619 ----------- ----------- ----------- Operating income...................................... 9,652,413 3,237,689 223,851 Other income (expense): Interest income..................................... 4,828,143 2,503,265 993,592 Interest expense.................................... (26,756) (146,879) (600,067) Write-off of minority interest investment (Note 1)............................................... (1,100,110) -- -- ----------- ----------- ----------- Income before income taxes............................ 13,353,690 5,594,075 617,376 Income taxes.......................................... 4,687,793 197,624 27,916 ----------- ----------- ----------- Net income............................................ $ 8,665,897 $ 5,396,451 $ 589,460 =========== =========== =========== Other comprehensive loss -- change in unrealized loss, net of tax of $12,830 (Note 4)...................... (24,905) -- -- ----------- ----------- ----------- Comprehensive income.................................. $ 8,640,992 $ 5,396,451 $ 589,460 =========== =========== =========== Basic net income per share: Basic............................................... $ 0.47 $ 0.34 $ 0.05 =========== =========== =========== Diluted............................................. $ 0.44 $ 0.32 $ 0.05 =========== =========== =========== Weighted average shares outstanding: Basic............................................... 18,576,107 15,691,421 10,800,573 =========== =========== =========== Diluted............................................. 19,689,387 16,795,343 13,014,078 =========== =========== ===========
See accompanying notes to consolidated financial statements. 32 33 PEGASUS SYSTEMS, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
PREFERRED STOCK COMMON STOCK --------------------- --------------------- ADDITIONAL NUMBER OF NUMBER OF PAID-IN UNEARNED SHARES AMOUNT SHARES AMOUNT CAPITAL COMPENSATION ---------- -------- ---------- -------- ------------ ------------ Balance at December 31, 1996.... 2,307,694 $ 23,077 7,961,599 $ 79,616 $ 16,934,133 $(485,937) ---------- -------- ---------- -------- ------------ --------- Conversion of preferred stock to common stock.................. (2,307,694) (23,077) 2,307,694 23,077 -- -- Initial public offering......... -- -- 5,175,000 51,750 40,441,750 -- Warrants issued for contract.... -- -- -- -- 238,000 -- Issuance of compensatory stock options....................... -- -- -- -- 450,847 (252,596) Exercise of stock options....... -- -- 2,000 20 4,119 -- Net income...................... -- -- -- -- -- -- ---------- -------- ---------- -------- ------------ --------- Balance at December 31, 1997.... -- -- 15,446,293 154,463 58,068,849 (738,533) ---------- -------- ---------- -------- ------------ --------- Secondary offering.............. -- -- 420,481 4,205 4,221,091 -- Windfall tax benefit of stock options....................... -- -- -- -- 403,532 -- Issuance of compensatory stock options....................... -- -- -- -- 240,928 28,176 Forfeitures of compensatory stock options................. -- -- -- -- (94,721) 94,721 Exercise of stock options....... -- -- 95,813 958 330,273 -- Issuance for stock purchase plan.......................... -- -- 17,469 175 160,685 -- Net income...................... -- -- -- -- -- -- ---------- -------- ---------- -------- ------------ --------- Balance at December 31, 1998.... -- -- 15,980,056 159,801 63,330,637 (615,636) ---------- -------- ---------- -------- ------------ --------- Secondary offering.............. -- -- 3,450,000 34,500 84,408,000 -- Windfall tax benefit of stock options....................... -- -- -- -- 4,195,736 -- Issuance of compensatory stock options....................... -- -- -- -- 249,774 73,434 Forfeitures of compensatory stock options................. -- -- -- -- (100,096) 100,096 Exercise of stock options....... -- -- 542,592 5,426 2,190,592 -- Issuance of stock warrant....... -- -- 518,584 5,186 2,484,020 -- Issuance for stock purchase plan.......................... -- -- 23,850 238 219,380 -- Change in unrealized gain (loss) on marketable securities...... -- -- -- -- -- -- Dividend payable................ -- -- (32) -- -- -- Net income...................... -- -- -- -- -- -- ---------- -------- ---------- -------- ------------ --------- Balance at December 31, 1999.... -- $ -- 20,515,050 $205,151 $156,978,043 $(442,106) ========== ======== ========== ======== ============ ========= TREASURY STOCK -------------------- ACCUMULATED RETAINED NUMBER OF COMPREHENSIVE EARNINGS SHARES AMOUNT LOSS (DEFICIT) TOTAL --------- -------- ------------- ------------ ------------ Balance at December 31, 1996.... (174,726) $(26,338) $ -- $(14,570,157) $ 1,954,394 -------- -------- ------------- ------------ ------------ Conversion of preferred stock to common stock.................. -- -- -- -- -- Initial public offering......... -- -- -- -- 40,493,500 Warrants issued for contract.... -- -- -- -- 238,000 Issuance of compensatory stock options....................... -- -- -- -- 198,251 Exercise of stock options....... -- -- -- -- 4,139 Net income...................... -- -- -- 589,460 589,460 -------- -------- ------------- ------------ ------------ Balance at December 31, 1997.... (174,726) (26,338) -- (13,980,697) 43,477,744 -------- -------- ------------- ------------ ------------ Secondary offering.............. -- -- -- -- 4,225,296 Windfall tax benefit of stock options....................... -- -- -- -- 403,532 Issuance of compensatory stock options....................... -- -- -- -- 269,104 Forfeitures of compensatory stock options................. -- -- -- -- -- Exercise of stock options....... -- -- -- -- 331,231 Issuance for stock purchase plan.......................... -- -- -- -- 160,860 Net income...................... -- -- -- 5,396,451 5,396,451 -------- -------- ------------- ------------ ------------ Balance at December 31, 1998.... (174,726) (26,338) -- (8,584,246) 54,264,218 -------- -------- ------------- ------------ ------------ Secondary offering.............. -- -- -- -- 84,442,500 Windfall tax benefit of stock options....................... -- -- -- -- 4,195,736 Issuance of compensatory stock options....................... -- -- -- -- 323,208 Forfeitures of compensatory stock options................. -- -- -- -- -- Exercise of stock options....... -- -- -- -- 2,196,018 Issuance of stock warrant....... -- -- -- -- 2,489,206 Issuance for stock purchase plan.......................... -- -- -- -- 219,618 Change in unrealized gain (loss) on marketable securities...... -- -- (24,905) -- (24,905) Dividend payable................ -- -- -- -- -- Net income...................... -- -- -- 8,665,897 8,665,897 -------- -------- ------------- ------------ ------------ Balance at December 31, 1999.... (174,726) $(26,338) $ (24,905) $ 81,651 $156,771,496 ======== ======== ============= ============ ============
See accompanying notes to consolidated financial statements. 33 34 PEGASUS SYSTEMS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997 ------------ ------------ ------------ Cash flows from operating activities: Net income....................................... $ 8,665,897 $ 5,396,451 $ 589,460 Adjustments to reconcile net income to net cash provided by operating activities: Accrued interest reclassified to notes payable..................................... -- -- 58,049 Windfall tax benefit from employee exercise of non-qualified stock options................. 4,195,736 403,532 -- Write-off of in-process research and development costs........................... -- 1,480,085 -- Loss (gain) on sale of equipment.............. 11,082 4,821 (53) Depreciation and amortization................. 2,437,410 2,689,867 3,016,619 Write-off of minority interest investment..... 1,100,110 -- -- Deferred income taxes......................... (661,100) (2,084,625) -- Decrease goodwill due to release of valuation allowance................................... -- 1,467,246 -- Recognition of stock option compensation...... 323,208 269,104 198,251 Other......................................... 90,722 27,615 3,359 Changes in assets and liabilities: Restricted cash............................. (822,005) (820,644) (595,826) Accounts receivable......................... (1,166,667) (1,566,348) (292,779) Other current and noncurrent assets......... (1,493,627) (807,830) (1,203,609) Accounts payable and accrued liabilities.... 1,483,841 794,456 1,425,801 Unearned income............................. (196,027) (413,840) (463,488) Other noncurrent liabilities................ (35,592) 9,030 23,904 ------------ ------------ ------------ Net cash provided by operating activities............................. 13,932,988 6,848,920 2,759,688 ------------ ------------ ------------ Cash flows from investing activities: Purchase of software, property and equipment..... (3,388,233) (1,729,950) (1,594,401) Proceeds from sale of software, property and equipment..................................... 4,699 29,887 1,075 Purchase of marketable securities................ (54,536,121) (33,832,343) (11,486,932) Proceeds from maturity of marketable securities.................................... 34,893,540 27,416,378 4,808,599 Purchase of Driving Revenue L.L.C................ -- (5,998,366) -- Purchase of equity interest in investees......... (100,110) (1,500,000) -- ------------ ------------ ------------ Net cash used in investing activities.... (23,126,225) (15,614,394) (8,271,659) ------------ ------------ ------------ Cash flows from financing activities: Proceeds from issuance of stock.................. 89,347,342 4,717,387 40,497,639 Repayments on notes payable to affiliates........ -- -- (5,447,133) Repayments of capital leases..................... (540,143) (1,116,521) (1,171,966) Proceeds from capital leases..................... -- -- 3,913 ------------ ------------ ------------ Net cash provided by financing activities............................. 88,807,199 3,600,866 33,882,453 ------------ ------------ ------------ Net increase (decrease) in cash and cash equivalents...................................... 79,613,962 (5,164,608) 28,370,482 Cash and cash equivalents, beginning of year....... 25,002,185 30,166,793 1,796,311 ------------ ------------ ------------ Cash and cash equivalents, end of year............. $104,616,147 $ 25,002,185 $ 30,166,793 ============ ============ ============ Supplemental disclosure of cash flow information: Interest paid.................................... $ 27,647 $ 144,833 $ 601,787 ============ ============ ============ Income taxes paid................................ $ 1,116,557 $ 256,288 $ 17,916 ============ ============ ============ Supplemental schedule of noncash investing and financing activities: Acquisition of equipment under capital leases.... $ -- $ -- $ 79,144 ============ ============ ============ Common stock warrants issued in exchange for customer contract asset....................... $ -- $ -- $ 238,000 ============ ============ ============
See accompanying notes to consolidated financial statements. 34 35 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION Pegasus is a leading provider of transaction processing and electronic commerce services to the hotel industry worldwide. Pegasus is organized into three businesses: Pegasus Electronic Distribution, Pegasus Commission Processing and Pegasus Business Intelligence. The consolidated financial statements include the accounts of Pegasus Systems, Inc. and its wholly owned subsidiaries ("Pegasus" or "the Company"). All significant intercompany balances have been eliminated in consolidation. MANAGEMENT ESTIMATES The preparation of the consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. Actual results may differ from those estimates. CASH AND CASH EQUIVALENTS The Company considers all highly liquid investments with maturities of three months or less from the date of purchase to be cash equivalents. RESTRICTED CASH Funds for travel agency commission checks which have not cleared the Company's processing bank after certain time periods are returned to the Company. Any amounts which are not remitted to travel agents will be escheated to the appropriate states, as required. A liability equal to the restricted cash is recorded upon receipt of the funds from the bank and is included in accrued liabilities on the balance sheet. INVESTMENTS IN DEBT SECURITIES Marketable securities consist of corporate debt securities. By policy, the Company invests primarily in high-grade marketable securities. All marketable securities are defined as available-for-sale or held-to-maturity under the provisions of Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities." Management determines the appropriate classification of its investments in marketable securities at the time of purchase and re-evaluates such determination at each balance sheet date. Debt securities that are bought with the intent and ability to hold until maturity are classified as held-to-maturity securities and are recorded at amortized cost. Debt securities that the Company does not have the intent or ability to hold until maturity are classified as available-for-sale. Available-for-sale securities are carried at fair value, with the changes in the unrealized gain or loss reported as a separate component of stockholders' equity, net of tax. CAPITALIZED SOFTWARE Software development costs are accounted for in accordance with either Statement of Financial Accounting Standards No. 86, "Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise Marketed," or with Statement of Position No. 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." Capitalized software development costs are amortized on a product-by-product basis using the greater of the amount computed by the ratio of current year net revenue to estimated future net revenue, or the amount computed by the straight-line method over a period which approximates the estimated economic life of the products. In the event unamortized software costs exceed the net realizable value of the software, the excess is recognized in the period the excess is determined. 35 36 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Additionally, capitalized software includes software purchased from third parties used in the operations of the Company. Prior to 1996, capitalized software costs were being amortized over three to five years using the straight-line method. However, in 1996 the Company changed the estimated life of all capitalized software costs to three years. The effect of this change in 1999, 1998 and 1997 was to increase net income by approximately $5,000, $144,000 and $142,000, respectively. This change had no impact on basic and diluted income per share for 1999 and increased basic and diluted income per share by $0.01 in 1998 and 1997. During 1999, 1998 and 1997, the Company capitalized software costs of approximately $917,000, $646,000, and $505,000, respectively. For 1999, capitalized software additions consisted of internally developed software and software purchased from third parties. For 1998 and 1997, capitalized software additions consisted of software purchased from third parties. During 1999, 1998 and 1997, amortization expense related to capitalized software was approximately $499,000, $959,000 and $1,435,000, respectively. Accumulated amortization of capitalized software was approximately $9,633,000 and $9,134,000 at December 31, 1999 and 1998, respectively. PROPERTY AND EQUIPMENT Property and equipment are recorded at cost and depreciated over their estimated useful lives, ranging from three to seven years. Leasehold improvements are amortized over the life of the lease using the straight-line method. Expenditures for maintenance and repairs, as well as minor renewals, are charged to operations as incurred, while betterments and major renewals are capitalized. Any gain or loss resulting from the retirement or sale of an asset is credited or charged to operations. The Company evaluates long-lived assets to be held and used in the business, or to be disposed of, for impairment whenever events or changes in circumstances indicate that the net book value of the asset may not be recoverable. An impairment is determined by comparing expected future cash flows (undiscounted and before interest) to the net book value of the assets. If impairment exists, the amount of impairment is measured as the difference between the net book value of the assets and the estimated fair value of the related assets. Based on its most recent analysis, the Company believes that no impairment of property and equipment existed at December 31, 1999 or 1998. GOODWILL Goodwill represents the excess of the purchase price of acquisitions over the fair value of the net assets acquired. Goodwill is amortized on a straight-line basis over ten to fifteen years. Unamortized goodwill at December 31, 1999 and 1998, was $2,890,077 and $4,238,071, respectively. The carrying value of goodwill is evaluated periodically in relation to the operating performance and anticipated future undiscounted net cash flows of the related business. Based on its most recent analysis, the Company believes that no impairment of goodwill existed at December 31, 1999 or 1998. Amortization of goodwill was approximately $416,000, $218,000 and $125,000 in 1999, 1998 and 1997, respectively. OTHER INVESTMENTS In June 1998, the Company purchased 250,000 shares of Series A Convertible Preferred Stock of Customer Analytics, Inc. for $500,000 representing approximately 7.1% interest. Customer Analytics, Inc. is a database marketing applications and solutions provider specializing in customer relationship marketing. In November 1999, Customer Analytics merged with ActionSystems Holdings, Inc. The Company's interest after the merger became approximately 1.4%. The investment is accounted for based on the lower of cost or fair value. 36 37 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) In September 1998, the Company purchased 225,225 shares of Series B Convertible Preferred Stock of Intermezzo Systems, Inc. for $1.0 million representing approximately 10.6% interest. Intermezzo is a developer of enterprise software solutions for the hospitality industry. The Intermezzo board of directors elected to cease operations in July 1999 and entered into an orderly plan of liquidation. As a result, Pegasus wrote-off $1.1 million in the second quarter of 1999 representing the Company's entire investment in Intermezzo. REVENUES Pegasus primarily derives its revenues from transaction fees and commissions charged to participating hotels and travel agencies. The Company's revenues are predominantly transaction-based. Pegasus Electronic Distribution. Pegasus derives revenues from its GDS distribution service by charging hotel customers a fee based on the number of reservations made, less the number cancelled ("net reservations"). In addition, hotels pay fees for status messages sent to global distribution systems through the GDS distribution service. Status messages are electronic messages sent by hotels to global distribution systems to update room rates, features and availability information in global distribution system databases. As a hotel's cumulative volume of net reservations increases during the course of the calendar year, its fee per transaction decreases after predetermined transaction volume hurdles have been met. As a result, for higher volume customers, unit transaction fees are higher at the beginning of the year, when cumulative transactions are lower. The Company recognizes revenues based on the fee per transaction that a customer is expected to pay during the entire year. The Company's interim balance sheets reflect a liability for the difference between the fee per transaction that Pegasus actually bills a customer during the period and the average fee per transaction that a customer is expected to pay for the entire year. The liability created during the early periods of the year is eliminated by the end of the year as the fee per transaction that Pegasus actually bills a customer falls below the average fee per transaction for the entire year. Additionally, Pegasus generally charges new participants in the GDS distribution service a one-time set-up fee for work performed to establish the connection between a hotel's central reservation system and the Pegasus electronic distribution technology. Revenue for these one-time set-up fees is recognized ratably over the set-up period, which generally ranges from two to four months. The Company also charges certain global distribution systems a fee based on either the number of net reservations or the number of hotel chains connected to the global distribution system through the Pegasus electronic distribution technology to compensate for the management and consolidation of multiple interfaces. Pegasus derives its TravelWeb.com revenues by charging participating hotels a combination of transaction fees or commissions. For reservations that originate on the TravelWeb.com website, Pegasus charges either a transaction fee based on the number of net reservations made at participating properties or a commission based on the value of the guest stay. For reservations that originate on websites using the private-label reservation service, Pegasus charges hotels transaction fees based on the number of net reservations made at participating properties. Private-label reservation customers also pay initial development fees and monthly subscription or maintenance fees. Initial development fees are recognized ratably over the set-up period. Pegasus Commission Processing. Pegasus derives commission processing revenues by charging each participating travel agency a fee based on a percentage of commissions paid to that agency through the commission processing service. The Company also generally charges participating hotels a fee based on the number of commissionable transactions processed. Revenues from travel agency fees can vary substantially from period to period based on the types of hotels at which reservations are made and fluctuations in overall room rates. Pegasus recognizes revenues from its commission processing service in the month in which the hotel stay occurs. In the immediate following month, Pegasus collects commissions from the hotels by the 12th business day of such month and pays commissions to travel agencies by the 15th business day of such 37 38 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) month. If a hotel fails to deliver funds to the Company, Pegasus is not obligated to deliver commission payments on behalf of the hotel to travel agencies. For the years ended December 31, 1999, 1998 and 1997, Pegasus Commission Processing revenues from hotels are presented net of commission payments to travel agencies of approximately $352 million, $255 million, and $165 million, respectively. Pegasus Commission Processing revenues for 1998 and 1997 also include amortization of a $2.0 million payment received by the Company in June 1993 in exchange for a five-year non-cancelable data processing contract. This payment was initially recorded as unearned income and was recognized as revenue over the life of the contract, which terminated in 1998. Pegasus Business Intelligence. Pegasus derives its business intelligence revenues by charging hotels fees for the development and maintenance of hotel databases and for consulting services. Pegasus Business Intelligence recognizes as revenue the portion of the total contract price that the cost expended to date bears to the anticipated final cost, based on current estimates to complete. Contract costs include all direct labor and benefits and direct materials. Additional billings are included in revenues when awarded or received. Revisions in estimates of costs and earnings during the course of the work are reflected in the accounting period in which the facts that require the revision become known. At the time a loss becomes known, the entire amount of the estimated ultimate loss is recognized in the financial statements. INCOME TAXES Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rate is recognized in income in the period that includes the enactment date. A valuation allowance is provided for a portion or all of the deferred tax assets when there is sufficient uncertainty regarding the Company's ability to recognize the benefits of the assets in future years. ADVERTISING COSTS Advertising and promotion-related expenses are charged to operations when incurred. Advertising expense for 1999, 1998 and 1997 was approximately $982,000, $1,105,000 and $609,000, respectively. FINANCIAL INSTRUMENTS The carrying amounts of the Company's financial instruments reflected in the consolidated balance sheets at December 31, 1999 and 1998 approximate their respective fair values. CONCENTRATIONS OF CREDIT RISK The Company's financial instruments exposed to concentrations of credit risk consist primarily of cash and receivables. Cash balances, exceeding the federally insured limits, are maintained in financial institutions. However, management believes the institutions are of high credit quality. The majority of receivables are due from companies which are well-established entities in the travel industry; therefore, management considers any exposure from concentrations of credit risks to be limited. ACCOUNTING FOR STOCK-BASED COMPENSATION Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("FAS 123"), encourages, but does not require, companies to record compensation cost for stock-based employee compensation plans at fair value. Pro forma disclosure of net income based on the provisions of FAS 38 39 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 123 is presented in Note 9. For financial reporting purposes, the Company has elected to continue to account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"), and related Interpretations. STOCK SPLITS In May 1997, the board of directors declared a four-for-three stock split of the outstanding common and preferred stock effected in the form of a dividend to stockholders of record on the effective date of the Registration Statement on Form S-1 with respect to the Company's initial public offering ("IPO") (Note 8). All references in the consolidated financial statements to shares, share prices, per share amounts and stock plans have been adjusted retroactively for the four-for-three stock split. On December 8, 1999, the board of directors declared a three-for-two split of common stock to be effected in the form of a stock dividend on January 7, 2000 to all Pegasus stockholders of record on December 20, 1999. All references in the consolidated financial statements to shares, share prices, per share amounts and stock plans have been adjusted retroactively for the three-for-two stock split. FOREIGN CURRENCY The U.S. dollar is the functional currency for the Company's foreign operation. Gains and losses from foreign currency transactions, such as settlement of foreign payables and foreign payroll, are included in net income. NET INCOME PER SHARE In 1997, the Company adopted Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("FAS 128"). FAS 128 replaces primary and fully dilutive earnings per share with basic and diluted earnings per share. Unlike primary earnings per share, basic earnings per share excludes any dilutive effect of potential common shares. Basic net income per share is based on the weighted average outstanding common shares. Diluted net income per share is based on the weighted average outstanding shares reduced by the effect of potential common shares (Note 15). COMPREHENSIVE INCOME In 1998, the Company adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income". This statement requires separate financial statement disclosure of comprehensive income, which encompasses changes in net asset values derived from activity from both owner and non-owner sources. In 1999, the Company had marketable securities classified as available-for-sale; therefore, the change in the unrealized gain (loss) is included as a component of stockholders' equity and other comprehensive income, net of taxes. There were no items that qualified for treatment as components of other comprehensive income for 1998 and 1997. SEGMENT INFORMATION In 1998, the Company adopted Statement of Financial Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and Related Information" ("FAS 131"). FAS 131 supercedes Statement of Financial Accounting Standards No. 14, "Financial Reporting for Segments of a Business Enterprise", replacing the "industry" approach with the "management" approach. The management approach designates the internal organization that is used by management for making operating decisions and assessing performance as the source of the Company's reportable segments. FAS 131 also requires disclosures about products and services, geographic areas, and major customers. The adoption of FAS 131 did not affect results of operations or financial position but did affect the disclosure of segment information (Note 16). 39 40 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) CHANGE IN ACCOUNTING POLICY On December 3, 1999, the Securities and Exchange Commission released Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue Recognition in Financial Statements," which summarizes certain of the Staff's views in applying generally accepted accounting principles to revenue recognition in financial statements. The Staff is providing this guidance due, in part, to the large number of revenue recognition issues that registrants encounter. The application of SAB 101 to revenue recognition for one-time set-up fees currently has an immaterial effect on Pegasus' consolidated statement of operations. Pegasus will apply SAB 101 on a prospective basis for fiscal years beginning after December 31, 1999. 2. ACQUISITIONS In August 1998, the Company acquired all of the equity interest in Driving Revenue L.L.C. for approximately $6.0 million plus estimated expenses of less than $100,000. Driving Revenue provides hotel database marketing and consulting services. The acquisition was recorded under the purchase method of accounting. Accordingly, Driving Revenue's results of operations subsequent to the acquisition date are included in the accompanying consolidated financial statements. The purchase price has been allocated to assets acquired and liabilities assumed based on estimated fair value at the date of acquisition. The approximate fair value of assets acquired and liabilities assumed at the date of acquisition, after giving effect to the write-off of certain purchased research and development, is summarized as follows: Current assets (including approximately $2,000 cash)..... $ 176,000 Software................................................. 344,000 Property and equipment................................... 42,000 Goodwill................................................. 4,296,000 Current liabilities...................................... 338,000
Approximately $1,480,000, based on a valuation performed by a third party, was allocated to in-process research and development projects that at the time of the acquisition had not reached technological feasibility and had no probable alternative future use. Factors considered in determining the amount of the purchase price allocated to in-process research and development included the estimated stage of development for each project at the acquisition date, the projected cash flows from the expected revenues to be generated from each project and discounting the net cash flows. Such amount of in-process research and development was charged to expense at the date of acquisition. The balance of the purchase price, approximately $4,296,000, was recorded as goodwill and is being amortized on a straight-line basis over a ten year period ending August 2008. The following unaudited pro forma summary combines the consolidated results of operations of Pegasus and Driving Revenue for the years ended December 31, 1998 and 1997 as if the acquisition had occurred at the beginning of 1998 and 1997 after giving effect to certain pro forma adjustments. The pro forma adjustments include: - amortization of excess purchase price allocated to software - amortization of goodwill - decreased interest income associated with acquisition funding during 1998 and for the period from the Company's initial public offering in 1997 to the end of 1997 - interest expense associated with acquisition funding for the period from the beginning of 1997 to the date of the Company's initial public offering in 1997 - elimination of in-process research and development in 1998 due to its nonrecurring nature - related income tax effects 40 41 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) This pro forma financial information is provided for informational purposes only and may not be indicative of the results of operations as they would have been had the transaction been effected on the assumed dates nor is it indicative of the results of operations which may occur in the future.
1998 1997 ----------- ----------- (UNAUDITED) Net revenues............................................... $29,737,000 $22,270,000 Net income (loss).......................................... 6,541,000 (232,000) Net income (loss) per share................................ 0.39 (0.02)
3. ACCOUNTS RECEIVABLE The Company collects travel agents' commissions from hotel chains and, after retaining a portion of these commissions as a fee, remits the net commissions to the travel agents. At December 31, 1999 and 1998, trade accounts receivable were stated net of commissions of approximately $29,200,000 and $21,505,000, respectively. 4. MARKETABLE SECURITIES Marketable securities held by the Company at December 31, 1999 are classified as available-for-sale and consisted of corporate debt securities. The cost and fair value of marketable securities at December 31, 1999 were as follows:
1999 ----------- Cost........................................................ $35,320,259 Gross unrealized holding gains.............................. 926 Gross unrealized holding losses............................. (38,661) ----------- Fair value.................................................. $35,282,524 ===========
Marketable securities held by the Company at December 31, 1998 were classified as held-to-maturity. At December 31, 1998, the amortized cost of corporate debt securities was $15,768,400. As of December 31, 1998, the aggregate fair market value of the held-to-maturity securities was not materially different from their carrying values, and the gross unrealized gains and losses by type of security were not material. Realized gains and losses are determined on a specific identification basis. There were no realized gains or losses from investment transactions in 1999, 1998 or 1997. 5. PROPERTY AND EQUIPMENT Property and equipment at December 31 consisted of the following:
1999 1998 ----------- ----------- Computer equipment......................................... $ 6,086,212 $ 5,817,100 Furniture and equipment.................................... 1,032,240 890,334 Office equipment........................................... 1,795,334 1,320,239 Leasehold improvements..................................... 204,084 93,313 ----------- ----------- 9,117,870 8,120,986 Less: accumulated depreciation............................. (5,549,658) (5,485,918) ----------- ----------- Property and equipment, net................................ $ 3,568,212 $ 2,635,068 =========== ===========
41 42 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 6. CAPITAL LEASES Assets recorded under capital leases, primarily consisting of computer equipment, are recorded at the lower of the present value of future minimum lease payments or the fair value of the asset. Total assets recorded under capital leases in 1999 and 1998 were approximately $470,000 and $3,436,000, respectively, net of accumulated amortization of $470,000 and $3,054,000, respectively. Amortization of assets under capital leases is included in depreciation and amortization expense. Future minimum lease payments and related interest are as follows: Aggregate minimum lease payments all of which are due in the year 2000................................................. $ 54,237 Less: amount representing interest and taxes................ (1,673) -------- 52,564 Less current portion........................................ (52,564) -------- $ -- ========
Interest rates on capital leases range from approximately 7% to 14%. Interest expense on capital leases for the years ended December 31, 1999, 1998 and 1997 was approximately $17,000, $144,000 and $277,000, respectively. 7. NOTES PAYABLE In August 1997, the Company repaid all outstanding principal and accrued interest on notes payable from the proceeds of the Company's initial public offering (Note 8). Total principal and interest paid during 1997 was approximately $5,711,000. Interest expense related to these notes was approximately $322,000 during the year ended December 31, 1997. 8. STOCKHOLDERS' EQUITY In August 1997, the stockholders amended the Company's certificate of incorporation to increase the number of authorized shares of common stock from 20 million to 100 million. The Company completed an IPO in August 1997. The Company's Registration Statement on Form S-1 (File No. 333-28595) with respect to the IPO was declared effective on August 6, 1997, and the Company's stock began trading on the Nasdaq National Market under the symbol PEGS on August 7, 1997. The Company sold 5,175,000 shares of common stock at a per share price of $8.67. Net proceeds to the Company, after deduction of the underwriting discount and estimated IPO expenses, were approximately $40.5 million. Selling stockholders also sold 988,500 shares at a per share price of $8.67. Net proceeds to the stockholders after deduction of the underwriting discount were approximately $8.0 million. The Company did not receive any proceeds from the sale of shares by the selling stockholders. Concurrent with the completion of the Company's IPO, a four-for-three split of the Company's outstanding common and Series A preferred stock was effected (Note 1), and all outstanding shares of Series A preferred stock were converted into shares of common stock. All references in the consolidated financial statements to shares, share prices, per share amounts and stock plans have been adjusted retroactively for the four-for-three stock split. Effective February 11, 1998, the Company completed a secondary public offering of common stock. The Company sold 420,481 shares of common stock at $11.67 per share. Net proceeds, after deducting the underwriting discount and estimated offering expenses, were approximately $4.2 million. Selling stockholders also sold 3,202,019 shares at $11.67 per share. The Company did not receive any proceeds from the sales of shares by the selling stockholders. 42 43 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) In May 1998, stockholders amended the Company's certificate of incorporation to reduce the number of authorized shares of common stock from 100 million to 50 million. The financial statements have been retroactively adjusted to reflect the reduction in authorized shares. In September 1998, the board of directors authorized the repurchase of up to $6.0 million in aggregate of the Company's common stock from time to time. No shares have been acquired as of December 31, 1999. In September 1998, the board of directors declared a dividend distribution of one preferred stock purchase right for each outstanding share of the Company's common stock. Each right will entitle stockholders to buy one one-thousandth of a share of the Company's Series A preferred stock for each share of the Company's common stock held at a price of $90.00. The number of rights associated with shares of common stock has been proportionally adjusted for the stock split effected in January 2000. The rights will be exercisable only if a person or group of affiliated or associated persons acquires, or has announced the intent to acquire, 20% or more of the Company's common stock. In May 1999, Pegasus completed a secondary public offering of common stock. The effective date of the registration statement on Form S-3 was May 6, 1999. Pegasus sold 3,450,000 shares of common stock at a price of $25.92 per share. After deducting the underwriters' discounts and offering expenses, net proceeds to Pegasus were approximately $84.4 million. On December 8, 1999, the board of directors approved a three-for-two stock split to be effected in the form of a stock dividend on January 7, 2000 to stockholders of record on December 20, 1999. All references in the consolidated financial statements to shares, share prices, per share amounts and stock plans have been retroactively adjusted for the three-for-two stock split. In connection with the stock split, $68,383 and $53,268 was reclassified to common stock from additional paid-in capital in the December 31, 1999 and 1998 balance sheets, respectively. 9. STOCK-BASED COMPENSATION In accordance with the Company's 1996 stock option plan ("1996 Plan"), amended and approved in March 1997, options to purchase 1,300,000 shares of the Company's common stock may be granted to Company employees. Options granted under the 1996 Plan before September 15, 1999 expire in December 2005. In accordance with the Company's 1997 stock option plan ("1997 Plan"), approved in March 1997 and amended in May 1999, options to purchase 1,050,000 shares of the Company's common stock may be granted to Company employees and non-employee directors and contractors. Options granted to Company employees under the 1997 Plan before September 15, 1999 expire in December 2006. Options granted to Company employees on or after September 15, 1999 under both the 1996 and 1997 Plans (collectively, "Plans") expire ten years from the date of grant. Options granted under the Plans may be in the form of incentive stock options or nonqualified stock options. The compensation committee of the board of directors ("Committee") administers the Plans and determines grant prices. Options granted to Company employees generally vest one-fourth after one year from the date of grant and one-twelfth of the balance each quarter thereafter. Options granted to non-employee directors and contractors vest and expire as determined by the Committee. The Company's authorized but unissued or reacquired common stock is used as stock options are exercised. In accordance with APB 25, the Company recorded unearned compensation of approximately $250,000, $241,000 and $451,000 in 1999, 1998 and 1997, respectively, related to options. Unearned compensation is being recognized ratably over the vesting period for stock option grants with exercise prices which are less than fair market value of the stock at the date of grant. Compensation expense of approximately $323,000, $269,000 and $198,000 was charged to operations in 1999, 1998 and 1997, respectively. As discussed in Note 1, the Company has adopted the disclosure-only provision of FAS 123. Had compensation cost for the Company's stock option plans been determined based on the fair value provisions of 43 44 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) FAS 123, the Company's net income and net income per share would have been decreased to the pro forma amounts indicated below:
1999 1998 1997 ---------- ---------- -------- Net income -- as reported......................... $8,665,897 $5,396,451 $589,460 Net income -- pro forma........................... $7,571,506 $4,859,692 $334,589 Net income per share -- as reported: Basic........................................... $ 0.47 $ 0.34 $ 0.05 Diluted......................................... $ 0.44 $ 0.32 $ 0.05 Net income per share -- pro forma: Basic........................................... $ 0.41 $ 0.31 $ 0.03 Diluted......................................... $ 0.38 $ 0.29 $ 0.03
The pro forma disclosures provided are not likely to be representative of the effects on reported net income for future years due to future grants and the vesting requirements of the Company's stock option plans. The weighted average fair value for options with exercise prices equal to the market price of stock at the grant date was $14.55 in 1999 and $4.54 in 1998. There were no options granted in 1997 with exercise prices equal to the market price of stock at the grant date. The weighted average fair value for options with exercise prices below the market price of stock at the grant date was $13.72 in 1999, $8.99 in 1998 and $5.67 in 1997. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions:
1999 1998 1997 --------- --------- --------- Dividend yield....................................... -- -- -- Expected volatility: Pre-IPO grants..................................... -- -- 0.0% Post-IPO grants.................................... 72.0% 72.8% 65.0% Risk-free rate of return............................. 5.7% 4.6% 6.1% Expected life........................................ 4.0 years 4.0 years 4.9 years
The following table summarizes activity under the Company's stock option plans during the years ended December 31:
WEIGHTED AVERAGE EXERCISE NUMBER OF COMPANY OPTIONS PRICE PER SHARE --------------------------------- ------------------------- 1999 1998 1997 1999 1998 1997 --------- --------- --------- ------- ------ ------ Options outstanding at beginning of year......... 2,000,942 1,623,417 1,157,610 $ 4.91 $3.83 $1.59 Granted..................... 524,875 595,749 497,499 24.93 8.29 8.99 Exercised................... 543,322 100,480 2,000 4.02 3.73 2.07 Canceled.................... 123,322 117,744 29,692 6.64 8.13 2.89 --------- --------- --------- ------ ----- ----- Options outstanding at end of year................... 1,859,173 2,000,942 1,623,417 $10.71 $4.91 $3.83 ========= ========= ========= ====== ===== ===== Options exercisable at end of year................... 706,978 735,784 395,151 $ 3.63 $2.95 $1.55
44 45 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The following table summarizes information for stock options outstanding at December 31, 1999:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE --------------------------------------------- --------------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED NUMBER OF REMAINING AVERAGE NUMBER OF AVERAGE EXERCISE PRICES OPTIONS CONTRACTUAL LIFE EXERCISE PRICE OPTIONS EXERCISE PRICE - --------------- --------- ---------------- -------------- --------- --------------- $1.34................... 514,250 6.0 years $ 1.34 414,874 $ 1.34 $2.07................... 144,098 5.8 years 2.07 91,871 2.07 $6.33-$8.93............. 396,397 6.9 years 7.03 88,704 6.93 $10.20-$15.09........... 278,053 6.2 years 10.94 111,519 10.82 $16.92-$25.25........... 427,375 8.0 years 24.34 -- -- $25.42-$31.17........... 99,000 6.5 years 27.25 -- -- --------- --------- ------ ------- ------ 1,859,173 6.7 years $10.71 706,968 $ 3.63 ========= ========= ====== ======= ======
The pro forma disclosures for 1999 include approximately $108,000 of compensation expense related to the Company's Employee Stock Purchase Plan (Note 13). The fair value of shares issued under this plan was estimated using the Black-Scholes option-pricing model with the following weighted-average assumptions:
1999 -------- Dividend yield.............................................. -- Expected volatility......................................... 72.0% Risk-free rate of return.................................... 4.5% Expected life............................................... 1.0 year
10. INCOME TAXES Pretax income from continuing operations for the years ended December 31 was taxed under the following jurisdictions:
1999 1998 1997 ----------- ---------- -------- Domestic......................................... $13,260,045 $5,495,808 $519,459 Foreign.......................................... 93,645 98,267 97,917 ----------- ---------- -------- $13,353,690 $5,594,075 $617,376 =========== ========== ========
45 46 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Deferred taxes consisted of the following at December 31:
1999 1998 ---------- ---------- Deferred tax assets: Net operating loss carryforward........................... $1,721,136 $2,162,922 Capital loss.............................................. 374,037 -- Stock option compensation expense......................... 128,273 181,545 Depreciation and amortization............................. 844,814 -- Rent expense.............................................. 36,309 52,540 Various expense accruals.................................. 81,231 50,660 Charitable contributions.................................. 30,658 22,495 Bad debt reserves......................................... 25,399 36,396 Income tax credits........................................ 191,585 24,160 Other..................................................... 12,830 -- ---------- ---------- Total gross deferred tax assets................... 3,446,272 2,530,718 Valuation allowance....................................... -- (270,000) Deferred tax liability: Software amortization..................................... -- (109,190) Depreciation and amortization............................. -- (66,903) ---------- ---------- Net deferred tax assets..................................... $3,446,272 $2,084,625 ========== ==========
In 1997, the net deferred tax asset was fully reserved because of uncertainty regarding the Company's ability to recognize the benefit of the asset in future years. In the fourth quarter of 1998, the Company released a significant portion of the valuation allowance as management believed it was more likely than not that the net deferred tax asset would be realized. The valuation allowance remaining at December 31, 1998 related to state net operating loss carryforwards. This valuation allowance was removed in 1999 because the related state net operating loss carryforward expired. A portion of the deferred tax asset was related to net operating loss carryforwards of The Hotel Clearing Corporation ("HCC") that existed at the time HCC was acquired by the Company in 1995. Accordingly, approximately $1,467,000 of the valuation allowance released in 1998 reduced the remaining goodwill related to the purchase of HCC. At December 31, 1999 and 1998, the Company had federal net operating loss carryforwards of approximately $5,062,000 and $5,567,000, respectively. The 1999 net operating loss carryforwards that existed at December 31, 1999 will begin to expire in 2007. Utilization of the net operating loss carryforwards may be limited by the separate return loss year rules and could be affected by ownership changes which have occurred or could occur in the future. As of December 31, 1999, management believes it is more likely than not that the net deferred tax asset will be realized; therefore, no valuation allowance is necessary. In 1999, the Company determined that amortization expense related to the Driving Revenue acquisition would be deductible for tax purposes. As a result, the Company established a deferred tax asset in the amount of approximately $932,000 and reduced goodwill accordingly. 46 47 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The components of the income tax provision for the years ended December 31 were as follows:
1999 1998 1997 ---------- --------- -------- Current provision: Federal.......................................... $4,791,986 $ 381,025 $ 51,525 State............................................ 519,907 462,413 -- Foreign.......................................... 37,000 38,100 27,916 ---------- --------- -------- 5,348,893 881,538 79,441 ---------- --------- -------- Deferred benefit: Federal.......................................... (579,243) (641,069) $(51,525) State............................................ (81,857) (42,845) -- ---------- --------- -------- (661,100) (683,914) (51,525) ---------- --------- -------- Provision for income taxes......................... $4,687,793 $ 197,624 $ 27,916 ========== ========= ========
A reconciliation of taxes based on the federal statutory rate of 34.0% and the provision for income taxes is summarized as follows for the years ended December 31:
1999 1998 1997 ---- ----- ----- Expected income tax provision.............................. 34.0% 34.0% 34.0% Valuation allowance........................................ -- (46.7)% (38.4)% Permanent differences...................................... (2.0)% 10.9% 9.8% State income taxes......................................... 2.2% 5.0% -- Rate change, state taxes................................... 0.5% -- -- Other, net................................................. 0.4% 0.3% (0.9)% ---- ----- ----- Provision for income taxes................................. 35.1% 3.5% 4.5% ==== ===== =====
11. COMMITMENTS AND CONTINGENCIES The Company leases its corporate office space and certain office equipment under non-cancelable operating leases. The Company incurred rent expense of approximately $1,039,000, $731,000 and $720,000 in 1999, 1998 and 1997, respectively. Approximate future minimum lease payments at December 31, 1999, under non-cancelable operating leases with original terms exceeding one year, including the Pegasus UK operating lease translated at the rate in effect at December 31, 1999, were as follows:
YEAR ENDING DECEMBER 31, - ------------ 2000.................................................... $1,319,000 2001.................................................... 1,388,000 2002.................................................... 1,362,000 2003.................................................... 65,000 2004.................................................... 65,000 Thereafter.............................................. 75,000 ---------- $4,274,000 ==========
In May 1997, the Company issued a warrant to a customer for the purchase of 518,584 shares of the Company's common stock as part of a five year contract involving a wide range of the Company's services. The warrant was exercised in May 1999 at an exercise price of $4.80 per share. The Company used the Black- 47 48 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Scholes option pricing model to value the warrant. A contract asset of $238,000 was recorded in May 1997, which is being amortized ratably over the associated five-year contract period. 12. EMPLOYEE BENEFIT PLAN The Company sponsors a 401(k) defined contribution retirement plan ("401(k) Plan") covering full-time employees who have attained the age of twenty-one. The 401(k) Plan allows eligible employees to defer receipt of up to fifteen percent of their compensation and contribute such amounts to various investment funds. Eligible employees may elect to participate at the beginning of any quarter after their hire date. Employee contributions vest immediately. The Company makes discretionary matching contributions of up to five percent of employees' annual contributions. The Company's matching contributions vest 20% a year for five years. After five years employment, an employee is fully vested in all matching contributions. During 1999, 1998 and 1997, the Company contributed approximately $363,000, $292,000 and $217,000, respectively, to the 401(k) Plan. 13. STOCK PURCHASE PLAN In May 1998, the Company's stockholders approved the Pegasus Systems, Inc. 1997 Employee Stock Purchase Plan ("Stock Plan"). The Company has reserved 750,000 shares of its common stock for purchase by employees pursuant to the terms of the Stock Plan. Eligible participating employees of the Company may elect to have an amount up to, but not in excess of, 10% of their regular salary or wages withheld for the purpose of purchasing the Company's common stock. Under the Stock Plan, an eligible participating employee will be granted an option at the beginning of each plan year (the "Offering Commencement Date") to purchase at the end of the plan year (the "Offering Termination Date") shares of common stock using the amounts that have accumulated from the employee's payroll deductions made during the plan year at a price that is 85% of the closing price of the common stock on the Nasdaq National Market or any other national securities exchange on the Offering Commencement Date or the Offering Termination Date, whichever is lower. 14. RELATED PARTIES Pegasus has entered into an arrangement with REZ, Inc. to manage and operate equipment owned by Pegasus at REZ's facilities. In this arrangement, REZ also provides equipment monitoring services, assurance of power supply and communications link back-up support. During 1999, 1998 and 1997, Pegasus recognized expense in the amount of approximately $578,000, $461,000 and $488,000, respectively, for those services. Pegasus provides electronic distribution, commission processing and Internet-based distribution services to REZ. Revenues relating to these services were approximately $1,179,000, $796,000 and $751,000 during 1999, 1998 and 1997, respectively (Note 18). Persons related to an officer of the Company have provided printing, design and procurement services to the Company. During 1999, 1998 and 1997, the Company paid approximately $34,000, $3,000 and $6,000, respectively, related to these services, the majority of which related to capitalized furniture purchases. Prior to the IPO, the Company derived a substantial portion of its revenues from certain stockholders and stockholder-owned companies. For the year ended December 31, 1997, revenue generated by stockholders and stockholder-owned companies was approximately $15.7 million or 75.3%. Disclosing revenues generated by stockholders and stockholder-owned companies was not considered necessary for the years ended December 31, 1999 and 1998 since the ownership percentage of these stockholders was reduced by the Company's IPO in August 1997, secondary offerings in February 1998 and May 1999 and subsequent open market sales of their shares. The ownership percentage of these stockholders was an aggregate of less than 10% of the 48 49 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Company's common shares outstanding at December 31, 1999 and 1998; therefore, these stockholders were not considered affiliates as of and for the years ended December 31, 1999 and 1998. 15. NET INCOME PER SHARE Basic net income per share for the years ended December 31, 1999, 1998 and 1997 has been computed in accordance with FAS 128 using the weighted average number of common shares outstanding after giving retroactive effect to stock splits (Notes 1 and 8). Diluted net income per share for the years ended December 31, 1999, 1998 and 1997 gives effect to all dilutive potential common shares that were outstanding during the periods. Outstanding options and warrants with strike prices below the average fair market value of the Company's common stock for the years ended December 31, 1999, 1998 and 1997 were included in the diluted earnings per share (EPS) calculations for the respective periods. The following table sets forth the options excluded from the diluted EPS calculations for the respective periods:
1999 1998 1997 ------------------------ ------------------------ ----------------------- OPTIONS OPTIONS OPTIONS THREE MONTHS ENDED EXCLUDED STRIKE PRICE EXCLUDED STRIKE PRICE EXCLUDED STRIKE PRICE - ------------------ -------- ------------- -------- ------------- -------- ------------ March 31................ 1,500 $27.25 -- -- -- -- June 30................. 9,000 $27.25-$31.17 -- -- -- -- September 30............ 106,500 $25.25-$31.17 81,000 $12.96-$15.16 -- -- December 31............. -- -- 85,500 $12.96-$16.92 -- --
The options were excluded because they were anti-dilutive. The options excluded in 1999 and 1998 expire from December 2005 to December 2006. 49 50 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The following table sets forth the basic and diluted net income per share computation for the years ended December 31:
1999 1998 1997 ----------- ----------- ----------- Net income.................................... $ 8,665,897 $ 5,396,451 $ 589,460 =========== =========== =========== Basic: Weighted average number of shares outstanding.............................. 18,576,107 15,691,421 10,800,573 ----------- ----------- ----------- Net income per share........................ $ 0.47 $ 0.34 $ 0.05 =========== =========== =========== Diluted: Weighted average number of shares outstanding.............................. 18,576,107 15,691,421 10,800,573 Additional weighted average shares from assumed conversion of dilutive convertible preferred stock to common stock, net of shares to be repurchased with exercise proceeds................... -- -- 1,382,032 Additional weighted average shares from assumed exercise of dilutive stock options and warrants, net of shares to be repurchased with exercise proceeds....... 1,113,280 1,103,922 831,473 ----------- ----------- ----------- Weighted average number of shares outstanding used in the diluted net income per share calculation............. 19,689,387 16,795,343 13,014,078 ----------- ----------- ----------- Net income per share........................ $ 0.44 $ 0.32 $ 0.05 =========== =========== ===========
16. SEGMENT INFORMATION In 1998, the Company adopted FAS 131. The prior years' segment information has been restated to present the Company's three reportable segments: - Pegasus Electronic Distribution -- provides services that enable travel agents and individual travelers to electronically access hotel room inventory information and conduct reservation transactions; - Pegasus Commission Processing -- provides commission payment processing services to the hotel industry and travel agencies; and - Pegasus Business Intelligence -- provides data mining and reporting services for benchmark analysis and strategic planning for the hotel industry. The accounting policies of the segments are the same as those described in the Note 1. Segment data includes a charge allocating all corporate costs to the operating segments. The Company evaluates the performance of its segments based on pretax income. The Company is organized primarily on the basis of services provided. 50 51 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The following table presents information about reported segments for the years ending December 31:
ELECTRONIC COMMISSION BUSINESS RECONCILING DISTRIBUTION PROCESSING INTELLIGENCE ITEMS TOTAL ------------ ----------- ------------ ----------- ----------- 1999 - ----- Net revenues.................. $17,888,157 $18,187,232 $1,960,880 $ -- $38,036,269 Interest income............... -- 158,325 44,322 4,625,496 4,828,143 Interest expense.............. 23,175 3,528 53 -- 26,756 Depreciation and amortization................ 1,256,591 383,116 797,703 -- 2,437,410 Income(loss) before taxes..... 5,957,372 7,880,898 (3,993,490) 3,508,910 13,353,690 1998 - ----- Net revenues.................. 12,310,046 15,851,557 902,864 -- 29,064,467 Interest income............... 14,358 151,243 12 2,337,652 2,503,265 Interest expense.............. 112,988 33,788 103 -- 146,879 Depreciation and amortization................ 1,258,152 1,175,451 256,264 -- 2,689,867 Write-off purchased in-process R&D......................... -- -- 1,480,085 -- 1,480,085 Income(loss) before taxes..... 506,036 5,527,910 (2,777,523) 2,337,652 5,594,075 1997 - ----- Net revenues.................. 9,864,738 11,038,678 -- -- 20,903,416 Interest income............... 7,820 105,437 -- 880,335 993,592 Interest expense.............. 516,631 83,265 171 -- 600,067 Depreciation and amortization................ 1,074,780 1,929,588 12,251 -- 3,016,619 Income(loss) before taxes..... (1,815,218) 2,122,436 (570,177) 880,335 617,376
Reconciling items for 1999, 1998 and 1997 include interest income earned on short-term investments. Reconciling items for 1999 also include a write-off of the Company's investment in Intermezzo Systems, Inc. The Company's business is conducted principally in the United States. The Company does not utilize or measure revenues by geographic location to evaluate Pegasus Electronic Distribution or Pegasus Business Intelligence segments. However, the Company does track the geographic source of travel agency and hotel transactions that give rise to Pegasus Commission Processing revenues. For 1999, 1998 and 1997, approximately $3,300,000, $2,922,000 and $2,037,000 of Commission Processing revenues were derived from customers based outside the United States. 51 52 PEGASUS SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 17. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) The following table summarizes the unaudited consolidated quarterly results of operations for 1999 and 1998 after giving retroactive effect to a three-for-two stock split (Note 8) (in thousands except per share amounts):
QUARTERS ENDED ----------------------------------------------- MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 -------- ------- ------------ ----------- 1999 Revenues................................. $ 8,372 $ 9,189 $10,075 $10,400 Income before provision for income taxes.................................. $ 2,432 $ 2,029 $ 4,136 $ 4,756 Net income............................... $ 1,501 $ 1,253 $ 2,730 $ 3,182 Basic net income per share............... $ 0.09 $ 0.07 $ 0.14 $ 0.16 Diluted net income per share............. $ 0.09 $ 0.06 $ 0.13 $ 0.15 Basic weighted average shares outstanding............................ 15,862 18,115 20,049 20,214 Diluted weighted average shares outstanding............................ 17,304 19,363 20,916 21,120 1998 Revenues................................. $ 6,167 $ 6,781 $ 7,803 $ 8,313 Income before provision for income taxes.................................. $ 947 $ 1,382 $ 798 $ 2,467 Net income............................... $ 940 $ 1,357 $ 772 $ 2,328 Basic net income per share............... $ 0.06 $ 0.09 $ 0.05 $ 0.15 Diluted net income per share............. $ 0.06 $ 0.08 $ 0.05 $ 0.14 Basic weighted average shares outstanding............................ 15,487 15,736 15,762 15,776 Diluted weighted average shares outstanding............................ 16,557 16,904 16,793 16,923
In accordance with FAS 128, earnings per share are computed independently for each of the quarters presented; therefore, the sum of the quarterly earnings per share may not equal the annual earnings per share. 18. SUBSEQUENT EVENT On November 16, 1999, the Company entered into a definitive agreement to acquire Phoenix-based REZsolutions, Inc., a leader in providing distribution services and solutions for the hotel industry. Under the terms of the agreement, Pegasus will issue 3.99 million shares of common stock, pay $115.0 million in cash and agree to a $20.0 million note payable to Utell International Ltd., a subsidiary of Reed Elsevier plc, a substantial REZ stockholder. Based on a five day average stock price of $31.775, the transaction is valued at approximately $260 million subject to closing balance sheet adjustments. The average stock price was determined using two days before, the day of and two days after the agreement was announced. The acquisition is expected to close during the first quarter of 2000 and will be accounted for under the purchase method of accounting. 52 53 ITEM 9. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required by this item appears in our definitive proxy statement for our 2000 annual meeting of stockholders under the captions "Nominees for Directors", "Directors Continuing in Office" and "Executive Officers," which information is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information required by this item appears in our definitive proxy statement for its 2000 annual meeting of stockholders under the caption "Executive Compensation," which information is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this item appears in our definitive proxy statement for its 2000 annual meeting of stockholders under the caption "Directors' and Officers' Ownership of our Common Stock," which information is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this item appears in our definitive proxy statement for its 2000 annual meeting of stockholders under the caption "Certain Transactions," which information is incorporated herein by reference. 53 54 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) 1. The following Financial Statement Schedule is filed as part of this annual report: Report of Independent Accountants on Financial Statement Schedule.................................................. Page S-1 Consolidated Valuation and Qualifying Accounts.............. Page S-2
All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchanges Commission are not required under the related instructions or are inapplicable and therefore have been omitted. 2. The following documents are filed or incorporated by reference as exhibits to this annual report:
EXHIBIT NUMBER DESCRIPTION ------- ----------- 2.1 -- Contribution and Restructuring Agreement dated effective as of July 21, 1995 by and among the Company and all of the stockholders of the Company 2.2 -- Agreement and Plan of Merger dated November 16, 1999, as amended, by and among Pegasus Systems, Inc., Pegasus Worldwide, Inc., REZ, Inc. and the majority stockholder of REZ, Inc. (incorporated by reference to the Company's S-4, as amended, originally filed with the Commission on December 14, 1999) 3.1 -- Third Amended and Restated Certificate of Incorporation, as amended 3.2 -- Second Amended and Restated Bylaws 3.3 -- Form of Certification of Designation, Preferences and Rights of Series A Preferred Stock of Pegasus Systems, Inc. (incorporated by reference from Exhibit 2 of the Company's Form 8-A filed with the Commission on October 9, 1998) 4.1 -- Specimen of Common Stock certificate 4.2 -- Third Amended and Restated Certificate of Incorporation and Second Amended and Restated Bylaws (see Exhibits 3.1 and 3.2) 4.3 -- Rights Agreement dated June 25, 1996 by and among the Company and certain holders of capital stock of the Company named therein 4.4 -- Common Stock Purchase Warrant issued to Holiday Hospitality Corporation 4.5 -- Rights Agreement dated as of September 28, 1998 by and between the Company and American Securities Transfer & Trust, Inc. (incorporated by reference from Exhibit 4 of the Company's Current Report on Form 8-K filed with the Commission on October 9, 1998) 4.6 -- Form of Rights Certificate (incorporated by reference from Exhibit 3 of the Company's Form 8-A filed with Commission on October 9, 1998) *10.1 -- Employment Agreement dated January 1, 2000 between the Company and John F. Davis, III (incorporated by reference to the Company's S-4, as amended, originally filed with Commission on December 14, 1999) *10.2 -- Employment Agreement dated January 1, 2000 between the Company and Joseph W. Nicholson (incorporated by reference to the Company's S-4, as amended, originally filed with Commission on December 14, 1999) *10.3 -- Employment Agreement dated January 1, 2000 between the Company and Jerome L. Galant (incorporated by reference to the Company's S-4, as amended, originally filed with Commission on December 14, 1999) *10.5 -- 1996 Stock Option Plan, as amended +*10.6 -- 1997 Stock Option Plan, as amended
54 55
EXHIBIT NUMBER DESCRIPTION ------- ----------- 10.7 -- Citibank Global Payments Service Agreement dated July 24, 1998 between The Hotel Clearing Corporation and Citibank, N.A. (incorporated by reference to Exhibit 10.1 of the Company's 10-Q for the quarter ended October 31, 1998, filed with the Commission on November 16, 1998) 10.8 -- Facilities Management Agreement dated January 1, 1996 between the Company and Anasazi, Inc., currently know as REZsolutions, Inc. 10.9 -- Service Agreement dated December 13, 1996 between the Company and Comdisco, Inc. 10.1 -- Service Agreement dated January 17, 1997 between the Company and Genuity, Inc. *10.11 -- 1997 Employee Stock Purchase Plan, as amended (incorporated by reference to the Company's 10-K for the year ended December 31, 1998.) 10.12 -- Office Lease dated October 1, 1995, First Amendment to Office Lease dated February 25, 1998, Second Amendment to Office Lease dated November 2, 1998 and Third Amendment to Office Lease dated November 8, 1999 between the Company and the Utah State Retirement Investment Fund relating to property located at 3811 Turtle Creek Blvd., Suite 1100, Dallas, Texas 75219 (incorporated by reference to the Company's Form S-4, as amended, originally filed with the Commission on December 14, 1999) +10.13 -- Supplemental Employee Retirement Plan +21.1 -- Subsidiaries of the Company +23.1 -- Consent of PricewaterhouseCoopers LLP +24.1 -- Power of Attorney (included on signature page) +27.1 -- Financial Data Schedule
- --------------- Unless otherwise indicated, exhibits are incorporated by reference to the Company's Registration Statement (File No. 333-28595) on Form S-1 declared effective by the Commission on August 6, 1997. + Filed herewith. * Management contract or compensatory plan or arrangement -- The Company will furnish a copy of any exhibit listed above to any stockholder without charge upon written request to Mr. Ric Floyd, Secretary, 3811 Turtle Creed Blvd., Suite 1100, Dallas, Texas 75219. (b) Reports on Form 8-K The following report on Form 8-K was filed during the quarter ended December 31, 1999:
FINANCIAL STATEMENTS ITEM DESCRIPTION FILING DATE FILED - ---- ----------- ----------- ---------- 5 A report announcing an Agreement and Plan of Merger with November 22, 1999 No REZ, Inc.
55 56 Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934, the Registrant has duly caused this annual report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Dallas, State of Texas, on this tenth day of March, 2000. PEGASUS SYSTEMS, INC. By: /s/ JOHN F. DAVIS, III ---------------------------------- John F. Davis, III Chief Executive Officer, President and Director Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons in the capacities and on the dates indicated. POWER OF ATTORNEY KNOW ALL MEN AND WOMEN BY THESE PRESENTS that each person whose signature appears below constitutes and appoints John F. Davis, III, Jerome L. Galant and Ric L. Floyd, and each of them, such individual's true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for such individual and in his or her name, place and stead, in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K, with all exhibits thereto, and to file the same with all exhibits thereto, and all documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises as fully and to intents and purposes as he might or could do in person hereby ratifying and confirming all that said attorneys-in-fact and agents, or any of them, or their substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
SIGNATURES TITLE DATE ---------- ----- ---- /s/ JOHN F. DAVIS, III Chief Executive Officer, President March 10, 2000 - ----------------------------------------------------- and Director (Principal John F. Davis, III Executive Officer) /s/ JEROME L. GALANT Chief Financial Officer (Principal March 10, 2000 - ----------------------------------------------------- Financial and Accounting Jerome L. Galant Officer) /s/ MICHAEL A. BARNETT Director March 10, 2000 - ----------------------------------------------------- Michael A. Barnett /s/ PAUL J. BROWN Director March 10, 2000 - ----------------------------------------------------- Paul J. Brown /s/ ROBERT B. COLLIER Director March 10, 2000 - ----------------------------------------------------- Robert B. Collier /s/ WILLIAM C. HAMMETT, JR. Director March 10, 2000 - ----------------------------------------------------- William C. Hammett, Jr.
56 57
SIGNATURES TITLE DATE ---------- ----- ---- /s/ THOMAS F. O'TOOLE Director March 10, 2000 - ----------------------------------------------------- Thomas F. O'Toole /s/ BRUCE W. WOLFF Director March 10, 2000 - ----------------------------------------------------- Bruce W. Wolff
57 58 REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULE To the Board of Directors of Pegasus Systems, Inc. Our audits of the consolidated financial statements referred to in our report dated February 10, 2000 appearing in Item 8 of this annual report on Form 10-K of Pegasus Systems, Inc. also included an audit of the financial statement schedule, for each of the three years in the period ended December 31, 1999, listed in Item 14(a) of this Form 10-K. In our opinion, the financial statement schedule presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. PricewaterhouseCoopers LLP Dallas, Texas February 10, 2000 S-1 59 SCHEDULE II PEGASUS SYSTEMS, INC. CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS FOR THE YEARS ENDED DECEMBER 31, 1997, 1998 AND 1999 (IN THOUSANDS)
ADDITIONS ADDITIONS BALANCE AT CHARGED TO FROM BALANCE AT BEGINNING COSTS AND ACQUIRED END OF CLASSIFICATION OF PERIOD EXPENSES COMPANIES DEDUCTIONS PERIOD - -------------- ---------- ---------- --------- ---------- ---------- December 31, 1997 Allowance for doubtful accounts....... $ 45 $ 81 $-- $ (48) $ 78 Income tax valuation allowance........ 4,549 -- -- (237) 4,312 ------ ---- --- ------- ------ Total reserves and allowances......... 4,594 81 -- (285) 4,390 ------ ---- --- ------- ------ December 31, 1998 Allowance for doubtful accounts....... 78 35 7 (21) 99 Income tax valuation allowance........ 4,312 270 -- (4,312) 270 ------ ---- --- ------- ------ Total reserves and allowances.................. 4,390 305 7 (4,333) 369 ------ ---- --- ------- ------ December 31, 1999 Allowance for doubtful accounts....... 99 -- -- (17) 82 Income tax valuation allowance........ 270 -- -- (270) -- ------ ---- --- ------- ------ Total reserves and allowances.................. $ 369 $ -- $-- $ (287) $ 82 ====== ==== === ======= ======
(a) This schedule should be read in conjunction with the Company's audited consolidated financial statements and related notes thereto that appear in Item 8 of this annual report on Form 10-K. S-2 60 EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION ------- ----------- 2.1 -- Contribution and Restructuring Agreement dated effective as of July 21, 1995 by and among the Company and all of the stockholders of the Company 2.2 -- Agreement and Plan of Merger dated November 16, 1999, as amended, by and among Pegasus Systems, Inc., Pegasus Worldwide, Inc., REZ, Inc. and the majority stockholder of REZ, Inc. (incorporated by reference to the Company's S-4, as amended, originally filed with the Commission on December 14, 1999) 3.1 -- Third Amended and Restated Certificate of Incorporation, as amended 3.2 -- Second Amended and Restated Bylaws 3.3 -- Form of Certification of Designation, Preferences and Rights of Series A Preferred Stock of Pegasus Systems, Inc. (incorporated by reference from Exhibit 2 of the Company's Form 8-A filed with the Commission on October 9, 1998) 4.1 -- Specimen of Common Stock certificate 4.2 -- Third Amended and Restated Certificate of Incorporation and Second Amended and Restated Bylaws (see Exhibits 3.1 and 3.2) 4.3 -- Rights Agreement dated June 25, 1996 by and among the Company and certain holders of capital stock of the Company named therein 4.4 -- Common Stock Purchase Warrant issued to Holiday Hospitality Corporation 4.5 -- Rights Agreement dated as of September 28, 1998 by and between the Company and American Securities Transfer & Trust, Inc. (incorporated by reference from Exhibit 4 of the Company's Current Report on Form 8-K filed with the Commission on October 9, 1998) 4.6 -- Form of Rights Certificate (incorporated by reference from Exhibit 3 of the Company's Form 8-A filed with Commission on October 9, 1998) *10.1 -- Employment Agreement dated January 1, 2000 between the Company and John F. Davis, III (incorporated by reference to the Company's S-4, as amended, originally filed with Commission on December 14, 1999) *10.2 -- Employment Agreement dated January 1, 2000 between the Company and Joseph W. Nicholson (incorporated by reference to the Company's S-4, as amended, originally filed with Commission on December 14, 1999) *10.3 -- Employment Agreement dated January 1, 2000 between the Company and Jerome L. Galant (incorporated by reference to the Company's S-4, as amended, originally filed with Commission on December 14, 1999) *10.5 -- 1996 Stock Option Plan, as amended +*10.6 -- 1997 Stock Option Plan, as amended 10.7 -- Citibank Global Payments Service Agreement dated July 24, 1998 between The Hotel Clearing Corporation and Citibank, N.A. (incorporated by reference to Exhibit 10.1 of the Company's 10-Q for the quarter ended October 31, 1998, filed with the Commission on November 16, 1998) 10.8 -- Facilities Management Agreement dated January 1, 1996 between the Company and Anasazi, Inc., currently know as REZsolutions, Inc. 10.9 -- Service Agreement dated December 13, 1996 between the Company and Comdisco, Inc. 10.1 -- Service Agreement dated January 17, 1997 between the Company and Genuity, Inc.
61
EXHIBIT NUMBER DESCRIPTION ------- ----------- *10.11 -- 1997 Employee Stock Purchase Plan, as amended (incorporated by reference to the Company's 10-K for the year ended December 31, 1998.) 10.12 -- Office Lease dated October 1, 1995, First Amendment to Office Lease dated February 25, 1998, Second Amendment to Office Lease dated November 2, 1998 and Third Amendment to Office Lease dated November 8, 1999 between the Company and the Utah State Retirement Investment Fund relating to property located at 3811 Turtle Creek Blvd., Suite 1100, Dallas, Texas 75219 (incorporated by reference to the Company's Form S-4, as amended, originally filed with the Commission on December 14, 1999) +10.13 -- Supplemental Employee Retirement Plan +21.1 -- Subsidiaries of the Company +23.1 -- Consent of PricewaterhouseCoopers LLP +24.1 -- Power of Attorney (included on signature page) +27.1 -- Financial Data Schedule
- --------------- Unless otherwise indicated, exhibits are incorporated by reference to the Company's Registration Statement (File No. 333-28595) on Form S-1 declared effective by the Commission on August 6, 1997. + Filed herewith. * Management contract or compensatory plan or arrangement -- The Company will furnish a copy of any exhibit listed above to any stockholder without charge upon written request to Mr. Ric Floyd, Secretary, 3811 Turtle Creed Blvd., Suite 1100, Dallas, Texas 75219. EX-10.6 2 1997 STOCK OPTION PLAN, AS AMENDED 1 EXHIBIT 10.6 1997 Amended Stock Option Plan 1. Purposes of the Plan. The purposes of this Stock Option Plan are to attract and retain the best available personnel for positions of substantial responsibility, to provide additional incentive to Employees and Consultants of the Company and any Parent or Subsidiary, to compensate Non-Employee Directors of the Company and to promote the success of the Company's business. Options granted under the Plan may be Incentive Stock Options or Nonstatutory Stock Options, as determined by the Administrator at the time of grant of an option and subject to the applicable provisions of Section 422 of the Code and the regulations promulgated thereunder. 2. Definitions. As used herein, the following definitions shall apply: (a) "Administrator" means the Board or the Compensation Committee appointed by the Board. (b) "Board" means the Board of Directors of the Company. (c) "Code" means the Internal Revenue Code of 1986, as amended. (d) "Committee" means the Compensation Committee appointed by the Board of Directors. (e) "Common Stock" means the Common Stock of the Company. (f) "Company" means Pegasus Systems, Inc. (g) "Consultant" means any person who is engaged by the Company or any Parent or Subsidiary to render consulting or advisory services and is compensated for such services. (h) "Continuous Status as an Employee or Consultant" means that the employment or consulting relationship with the Company, any Parent or Subsidiary is not interrupted or terminated. Continuous Status as an Employee or Consultant shall not be considered interrupted in the case of (i) any leave of absence approved by the Company or (ii) transfers between locations of the Company or between the Company, its Parent, any Subsidiary, or any successor. A leave of absence approved by the Company shall include sick leave, military leave, or any other personal leave. For purposes of Incentive Stock Options, no such leave may exceed 90 days, unless reemployment upon expiration of such leave is guaranteed by statute or contract, including Company policies. If reemployment upon expiration of a leave of absence approved by the Company is not so guaranteed, on the 181st day of such leave any Incentive Stock Option held by the Optionee shall cease to be treated as an Incentive Stock Option and shall be treated for tax purposes as a Nonstatutory Stock Option. -1- 2 (i) "Disability" means total and permanent disability as defined in Section 22(e)(3) of the Code. (j) "Employee" means any person, including officers and directors, employed by the Company or any Parent or Subsidiary of the Company. The payment of a director's fee by the Company shall not be sufficient to constitute "employment" by the Company. (k) "Exchange Act" means the Securities Exchange Act of 1934, as amended. (l) "Fair Market Value" means, as of any date, the value of Common Stock determined as follows: (i) If the Common Stock is listed on any established stock exchange or a national market system, including without limitation the Nasdaq National Market or The Nasdaq SmallCap Market of The Nasdaq Stock Market, its Fair Market Value shall be the closing sales price for such stock (or the closing bid, if no sales were reported) as quoted on such exchange or system for the last market trading day prior to the time of determination, as reported in The Wall Street Journal or such other source as the Administrator deems reliable; (ii) If the Common Stock is regularly quoted by a recognized securities dealer but selling prices are not reported, its Fair Market Value shall be the mean between the high bid and low asked prices for the Common Stock on the last market trading day prior to the day of determination; or (iii) In the absence of an established market for the Common Stock, the Fair Market Value shall be determined in good faith by the Administrator. (m) "Incentive Stock Option" means an Option intended to qualify as an incentive stock option within the meaning of Section 422 of the Code. (n) "Non-Employee Director" means any person who is a member of the Board who is not an Employee. (o) "Nonstatutory Stock Option" means an Option not intended to qualify as an Incentive Stock Option. (p) "Option" means a stock option granted pursuant to the Plan. (q) "Optioned Stock" means the Common Stock subject to an Option. (r) "Optionee" means an Employee, Consultant or Non-Employee Director who receives an Option. -2- 3 (s) "Parent" means a "parent corporation," whether now or hereafter existing, as defined in Section 424(e) of the Code. (t) "Permitted Transferee" means a member of a holder's immediate family, trusts for the benefit of such immediate family members, and partnerships in which the holder and such immediate family members are the only partners, provided that no consideration is provided for the transfer. (u) "Plan" means this 1997 Amended Stock Option Plan. (v) "Section 16(b)" means Section 16(b) of the Securities Exchange Act of 1934, as amended. (w) "Share" means a share of the Common Stock, as adjusted in accordance with Section 13 below. (x) "Subsidiary" means a "subsidiary corporation," whether now or hereafter existing, as defined in Section 424(f) of the Code. 3. Stock Subject to the Plan. Subject to the provisions of Section 13 of the Plan, the maximum aggregate number of Shares which may be optioned and sold under the Plan is 1,500,000 Shares, increased, as of May 1 of each fiscal year commencing May 1, 2000, by an amount that, when aggregated with the number of shares reserved for issuance as stock options under all stock option plans sponsored by the Company, equals fifteen percent (15%) of the number of Shares outstanding as of the close of business on the last business day of April each year. The maximum number of Shares with respect to which Options may be awarded under the Plan during any fiscal year to any Employee shall be 500,000. The Shares may be authorized, but unissued, or reacquired Common Stock. If an Option expires or becomes unexercisable without having been exercised in full, or is surrendered pursuant to an option exchange program authorized by the Administrator, the unpurchased Shares which were subject thereto shall become available for future grant or sale under the Plan (unless the Plan has terminated); provided, however, that Shares that have actually been issued under the Plan shall not be returned to the Plan and shall not become available for future distribution under the Plan, except that if unvested Shares are repurchased by the Company at their original purchase price, such Shares shall become available for future grant under the Plan. -3- 4 4. Administration of the Plan. (a) Plan Procedure. With respect to Option grants awarded to Employees, Consultants or Non-Employee Directors, the Plan shall be administered by (A) the Board or (B) the Compensation Committee designated by the Board, which committee shall be constituted to satisfy the legal requirements, if any, relating to the administration of incentive stock option plans of state corporate and securities laws, of the Code, and of any stock exchange or national market system upon which the Common Stock is then listed or traded (the "Applicable Laws"). Once appointed, such Committee shall serve in its designated capacity until otherwise directed by the Board. The Board may increase the size of the Committee and appoint additional members, remove members (with or without cause) and substitute new members, fill vacancies (however caused), and remove all members of the Committee and thereafter directly administer the Plan, all to the extent permitted by Applicable Laws. (b) Powers of the Administrator. Subject to the provisions of the Plan and approval of any relevant authorities, including the approval, if required, of any stock exchange or national market system upon which the Common Stock is then listed, the Administrator shall have the authority, in its discretion: (i) to determine the Fair Market Value of the Common Stock, in accordance with Section 2(l) of the Plan; (ii) to select the Consultants and Employees to whom Options may from time to time be granted hereunder; (iii) to determine whether and to what extent Options are granted hereunder; (iv) to determine the number of shares of Common Stock to be covered by each such award granted hereunder; (v) to approve forms of agreement for use under the Plan; (vi) to determine the terms and conditions, not inconsistent with the terms of the Plan, of any award granted hereunder. Such terms and conditions may include, but are not limited to, the exercise price, the time or times when Options may be exercised, any vesting acceleration or waiver of forfeiture restrictions, and any restriction or limitation regarding any Option or the Shares relating thereto, based in each case on such factors as the Administrator, in its sole discretion, shall determine; (vii) to determine whether and under what circumstances an Option may be settled in cash under Section 10(e) instead of Common Stock; -4- 5 (viii) to reduce the exercise price of any Option to the then current Fair Market Value only in the event the reduction of the exercise price (i) effects less than ten percent (10%) of the Shares authorized for grant under the Plan, (ii) is for a legitimate corporate purpose such as retention of one or more key persons and (iii) is for the purpose of maintaining option value due to extreme circumstances beyond management's control; (ix) to provide for the early exercise of Options for the purchase of unvested Shares, subject to such terms and conditions as the Administrator may determine; and (x) to construe and interpret the terms of the Plan and awards granted pursuant to the Plan. (c) Effect of Administrator's Decision. All decisions, determinations and interpretations of the Administrator shall be final and binding on all Optionees and any other holders of any Options. 5. Eligibility. (a) Nonstatutory Stock Options may be granted to Employees, Consultants and Non-Employee Directors. Incentive Stock Options may be granted only to Employees. An Employee, Consultant or Non-Employee Director who has been granted an Option may, if otherwise eligible, be granted additional Options. (b) Each Option shall be designated in the written option agreement as either an Incentive Stock Option or a Nonstatutory Stock Option. However, notwithstanding such designation, to the extent that the aggregate Fair Market Value of the Shares with respect to which Incentive Stock Options are exercisable for the first time by the Optionee during any calendar year (under all plans of the Company and any Parent or Subsidiary) exceeds $100,000, such Options shall be treated as Nonstatutory Stock Options. For purposes of this Section 5(b), Incentive Stock Options shall be taken into account in the order in which they were granted, and the Fair Market Value of the Shares shall be determined as of the time the Option with respect to such Shares is granted. (c) The Plan shall not confer upon any Optionee any right with respect to the continuation of the Optionee's employment or consulting relationship with the Company, nor shall it interfere in any way with the Optionee's right or the Company's right to terminate the Optionee's employment or consulting relationship at any time, with or without cause. 6. Term of Plan. The Plan shall become effective upon the earlier to occur of its adoption by the Board of Directors or its approval by the stockholders of the Company, as described in Section 15 of the Plan. It shall continue in effect for a term of ten (10) years unless sooner terminated under Section 15 of the Plan. -5- 6 7. Term of Option. The term of each Option shall be the term stated in the Option Agreement; provided, however, that the term shall be no more than ten (10) years from the date of grant thereof. However, in the case of an Incentive Stock Option granted to an Optionee who, at the time the Option is granted, owns stock representing more than ten percent (10%) of the voting power of all classes of stock of the Company or any Parent or Subsidiary, the term of the Option shall be five (5) years from the date of grant thereof or such shorter term as may be provided in the Option Agreement. 8. Option Exercise Price and Consideration. (a) The per share exercise price for the Shares to be issued pursuant to exercise of an Option shall be such price as is determined by the Administrator, but shall be subject to the following: (i) In the case of an Incentive Stock Option (A) granted to an Employee who, at the time of the grant of such Incentive Stock Option, owns stock representing more than ten percent (10%) of the voting power of all classes of stock of the Company or any Parent or Subsidiary, the per Share exercise price shall be no less than 110% of the Fair Market Value per Share on the date of grant. (B) granted to any Employee other than an Employee described in the preceding paragraph, the per Share exercise price shall be no less than 100% of the Fair Market Value per Share on the date of grant. (ii) In the case of a Nonstatutory Stock Option, the per share exercise price shall be determined by the Administrator but shall not be less than one hundred percent (100%) of the Fair Market Value per Share on the date of grant; provided, however, that a per share exercise price of no less than eighty-five percent (85%) of the Fair Market Value per Share on the date of grant shall be permitted for a Nonstatutory Stock Option expressly awarded to an Employee in lieu of a reasonable amount of salary or cash bonus. (b) The consideration to be paid for the Shares to be issued upon exercise of an Option, including the method of payment, shall be determined by the Administrator (and, in the case of an Incentive Stock Option, shall be determined at the time of grant) and may consist entirely of (1) cash, (2) check, (3) promissory note, (4) other Shares which (x) in the case of Shares acquired upon exercise of an Option have been owned by the Optionee for more than six months on the date of surrender and (y) have a Fair Market Value on the date of surrender equal to the aggregate exercise price of the Shares as to which such Option shall be exercised, (5) delivery of a properly executed exercise notice together with such other documentation as the Administrator and the broker, if applicable, shall require to effect an exercise of the Option and delivery to the Company of the sale or loan proceeds required to pay the exercise price, or (6) any combination of the foregoing methods -6- 7 of payment. In making its determination as to the type of consideration to accept, the Administrator shall consider if acceptance of such consideration may be reasonably expected to benefit the Company. 9. Grants to Non-Employee Directors. The Administrator may, from time to time, in its discretion, award Nonstatutory Stock Options to Non-Employee Directors, for the number of shares of Common Stock, and upon such terms and conditions as may be consistent with the Plan, based in each case on such factors as the Administrator, in its sole discretion, shall determine. 10. Exercise of Option. (a) Procedure for Exercise; Rights as a Stockholder. Any Option granted hereunder shall be exercisable at such times and under such conditions as determined by the Administrator, including performance criteria with respect to the Company and/or the Optionee, and as shall be permissible under the terms of the Plan. An Option may not be exercised for a fraction of a Share. An Option shall be deemed to be exercised when written notice of such exercise has been given to the Company in accordance with the terms of the Option by the person entitled to exercise the Option and full payment for the Shares with respect to which the Option is exercised has been received by the Company. Full payment may, as authorized by the Administrator, consist of any consideration and method of payment allowable under Section 8(b) of the Plan. Until the issuance (as evidenced by the appropriate entry on the books of the Company or of a duly authorized transfer agent of the Company) of the stock certificate evidencing such Shares, no right to vote or receive dividends or any other rights as a stockholder shall exist with respect to the Optioned Stock, notwithstanding the exercise of the Option. The Company shall issue (or cause to be issued) such stock certificate promptly upon exercise of the Option. No adjustment will be made for a dividend or other right for which the record date is prior to the date the stock certificate is issued, except as provided in Section 13 of the Plan. Exercise of an Option in any manner shall result in a decrease in the number of Shares which thereafter may be available, both for purposes of the Plan and for sale under the Option, by the number of Shares as to which the Option is exercised. (b) Termination of Employment or Consulting Relationship. Upon termination of an Optionee's Continuous Status as an Employee or Consultant, other than upon the Optionee's death or Disability, the Optionee may exercise his or her Option, but only within such period of time as is specified in the Notice of Grant, and only to the extent that the Optionee was entitled to exercise it at the date of termination (but in no event later than the expiration of the term of such Option as set forth in the Notice of Grant). In the absence of a specified time in the Notice of Grant, the Option -7- 8 shall remain exercisable for three (3) months following the Optionee's termination. In the case of an Incentive Stock Option, such period of time for exercise shall not exceed three (3) months from the date of termination. If, on the date of termination, the Optionee is not entitled to exercise the Optionee's entire Option, the Shares covered by the unexercisable portion of the Option shall revert to the Plan. If, after termination, the Optionee does not exercise his or her Option within the time specified by the Administrator, the Option shall terminate, and the Shares covered by such Option shall revert to the Plan. Notwithstanding the above, in the event of an Optionee's change in status from Consultant to Employee or Employee to Consultant, an Optionee's Continuous Status as an Employee or Consultant shall not automatically terminate solely as a result of such change in status. However, in such event, an Incentive Stock Option held by the Optionee shall cease to be treated as an Incentive Stock Option and shall be treated for tax purposes as a Nonstatutory Stock Option three months and one day following such change of status. The provisions of this Section 10(b) shall not be applicable to Non-Employee Directors. (c) Disability of Optionee. In the event of termination of an Optionee's Continuous Status as an Employee or Consultant as a result of his or her Disability, the Optionee may, but only within twelve (12) months from the date of such termination (and in no event later than the expiration date of the term of his or her Option as set forth in the Option Agreement), exercise the Option to the extent the Optionee was otherwise entitled to exercise it on the date of such termination. To the extent that the Optionee is not entitled to exercise the Option on the date of termination, or if the Optionee does not exercise the Option to the extent so entitled within the time specified herein, the Option shall terminate, and the Shares covered by the Option shall revert to the Plan. (d) Death of Optionee. In the event of the death of an Optionee, the Option may be exercised at any time within twelve (12) months following the date of death (but in no event later than the expiration of the term of such Option as set forth in the Notice of Grant), by the Optionee's estate or by a person who has acquired the right to exercise the Option by bequest or inheritance, but only to the extent that the Optionee was entitled to exercise the Option at the date of death. If, at the time of death, the Optionee was not entitled to exercise his or her entire Option, the Shares covered by the unexercisable portion of the Option shall immediately revert to the Plan. If, after death, the Optionee's estate or a person who acquires the right to exercise the Option by bequest or inheritance does not exercise the Option within the time specified herein, the Option shall terminate, and the Shares covered by such Option shall revert to the Plan. (e) Buyout Provisions. The Administrator may at any time offer to buy out for a payment in cash or Shares, an Option previously granted, based on such terms and conditions as the Administrator shall establish and communicate to the Optionee at the time that such offer is made. -8- 9 (f) Rule 16b-3. Options granted to persons subject to Section 16(b) of the Exchange Act must comply with Rule 16b-3 and shall contain such additional conditions or restrictions as may be required thereunder to qualify for the maximum exemption from Section 16 of the Exchange Act with respect to Plan transactions. 11. Stock Withholding to Satisfy Withholding Tax Obligations. At the discretion of the Administrator, Optionees may satisfy withholding obligations as provided in this Section 11. When an Optionee incurs tax liability in connection with an Option which tax liability is subject to tax withholding under applicable tax laws, and the Optionee is obligated to pay the Company an amount required to be withheld under applicable tax laws, the Optionee may satisfy the withholding tax obligation by electing to have the Company withhold from the Shares to be issued upon exercise of the Option that number of Shares having a Fair Market Value equal to the amount required to be withheld. The Fair Market Value of the Shares to be withheld shall be determined on the date that the amount of tax to be withheld is to be determined (the "Tax Date"). All elections by an Optionee to have Shares withheld for this purpose shall be made in writing in a form acceptable to the Administrator and shall be subject to the following restrictions: (a) the election must be made on or prior to the applicable Tax Date; (b) once made, the election shall be irrevocable as to the particular Shares of the Option as to which the election is made; (c) all elections shall be subject to the consent or disapproval of the Administrator. In the event the election to have Shares withheld is made by an Optionee and the Tax Date is deferred under Section 83 of the Code because no election is filed under Section 83(b) of the Code, the Optionee shall receive the full number of Shares with respect to which the Option is exercised but such Optionee shall be unconditionally obligated to tender back to the Company the proper number of Shares on the Tax Date. 12. Transferability of Options and Rights. Incentive Stock Options granted under the Plan shall not be transferable otherwise than by will or the laws of descent and distribution, or pursuant to a qualified domestic relations order as defined by the Code or Title I of the Employee Retirement Income Security Act of 1974, as amended, or the rules thereunder. Incentive Stock Options shall be exercisable during the lifetime of the Employee only by the Employee or by the Employee's guardian or legal representative (unless such exercise would disqualify it as an Incentive Stock Option). Unless the Administrator otherwise provides in an agreement regarding the award of non-qualified stock options or rights (not granted in connection with an Incentive Stock Option), non-qualified stock options or rights (not granted in connection with Incentive Stock Options) may be transferred by the holder to Permitted Transferees, provided that there cannot be any consideration for the transfer. 13. Adjustments Upon Changes in Capitalization or Merger. -9- 10 (a) Changes in Capitalization. Subject to any required action by the stockholders of the Company, the number of shares of Common Stock covered by each outstanding Option, and the number of shares of Common Stock which have been authorized for issuance under the Plan but as to which no Options have yet been granted or which have been returned to the Plan upon cancellation or expiration of an Option, as well as the price per share of Common Stock covered by each such outstanding Option, shall be proportionately adjusted for any increase or decrease in the number of issued shares of Common Stock resulting from a stock split, reverse stock split, stock dividend, combination or reclassification of the Common Stock, or any other increase or decrease in the number of issued shares of Common Stock effected without receipt of consideration by the Company; provided, however, that conversion of any convertible securities of the Company shall not be deemed to have been "effected without receipt of consideration." Such adjustment shall be made by the Board, whose determination in that respect shall be final, binding and conclusive. Except as expressly provided herein, no issuance by the Company of shares of stock of any class, or securities convertible into shares of stock of any class, shall affect, and no adjustment by reason thereof shall be made with respect to, the number or price of shares of Common Stock subject to an Option. (b) Dissolution or Liquidation. In the event of the proposed dissolution or liquidation of the Company, the Administrator shall notify each Optionee as soon as practicable prior to the effective date of such proposed transaction. The Administrator in its discretion may provide for an Optionee to have the right to exercise his or her Option until ten (10) days prior to such transaction as to all of the Optioned Stock covered thereby, including Shares as to which the Option would not otherwise be exercisable. In addition, the Administrator may provide that any Company repurchase option applicable to any Shares purchased upon exercise of an Option shall lapse as to all such Shares, provided the proposed dissolution or liquidation takes place at the time and in the manner contemplated. To the extent it has not been previously exercised, an Option will terminate immediately prior to the consummation of such proposed action. (c) Acquisition Events (1) Consequences of Acquisition Events. Upon the occurrence of an Acquisition Event (as defined below), or the execution by the Company of any agreement with respect to an Acquisition Event, the Board shall take any one or more of the following actions with respect to then outstanding Options: (i) provide that outstanding Options shall be assumed or equivalent Options shall be substituted by the acquiring or succeeding entity (or an affiliate thereof), provided that any such Options substituted for Incentive Stock Options shall satisfy, in the determination of the Board, the requirements of Section 422(a) of the Code; (ii) upon written notice to the Optionees, provide that all then unexercised Options will become exercisable in full as of a specified date (the "Acceleration Date") prior to the Acquisition Event and will terminate immediately prior to the consummation of such Acquisition Event, except to the extent exercised by the Optionees between the Acceleration Date and the consummation of the Acquisition Event or (iii) in the event of an Acquisition Event under the terms of which holders of Common Stock will receive upon consummation thereof a cash payment for each share of Common Stock surrendered pursuant to such -10- 11 Acquisition Event (the "Acquisition Price") provide that all outstanding Options shall terminate upon consummation of such Acquisition Event and each Optionee shall receive, in exchange therefor, a cash payment equal to the amount (if any) by which (A) the Acquisition Price multiplied by the number of shares of Common Stock subject to such outstanding Options (whether or not then exercisable), exceeds (B) the aggregate exercise price of such Options. An "Acquisition Event" shall mean: (a) any merger or consolidation which results in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving or acquiring entity) less than 60% of the combined voting power of the voting securities of the Company or such surviving or acquiring entity outstanding immediately after such merger or consolidation; (b) any sale of all or substantially all of the assets of the Company; (c) the complete liquidation of the Company; or (d) the acquisition of "beneficial ownership" (as defined in Rule 13d-3 under the Exchange Act) of securities of the Company representing 50% or more of the combined voting power of the Company's then outstanding securities (other than through a merger or consolidation or an acquisition of securities directly from the Company) by any "person", as such term is used in Sections 13 (d) and 14 (d) of the Exchange Act other than the Company, any trustee or other fiduciary holding securities under an employee benefit plan of the Company, or any entity owned directly or indirectly by the stockholders of the Company in substantially the same proportion as their ownership of stock of the Company. (2) Assumption of Options Upon Certain Events. The Board may grant options under the Plan in substitution for stock and stock-based awards held by employees of another entity who become Employees as a result of a merger or consolidation of the employing entity with the Company or the acquisition by the Company of property or stock of the employing entity. The substitute options shall be granted on such terms and conditions as the Board considers appropriate in the circumstances. 14. Time of Granting Options. The date of grant of an Option shall, for all purposes, be the date on which the Administrator makes the determination granting such Option, or such other date as is determined by the Administrator. Notice of the determination shall be given to each Employee or Consultant to whom an Option is so granted within a reasonable time after the date of such grant. 15. Amendment and Termination of the Plan. (a) Amendment and Termination. The Board may at any time amend, alter, suspend or discontinue the Plan, but no amendment, alteration, suspension or discontinuation shall be made which would impair the rights of any Optionee under any grant theretofore made, without his or her consent. In addition, to the extent necessary and desirable to comply with Rule 16b-3 under the Exchange Act or with Section 422 of the Code (or any other applicable law or regulation, including the requirements of any stock exchange or national market system upon which the Common Stock is then listed), the Company shall obtain stockholder approval of any Plan amendment in such a manner and to such a degree as required. -11- 12 (b) Effect of Amendment or Termination. Any such amendment or termination of the Plan shall not affect Options already granted, and such Options shall remain in full force and effect as if this Plan had not been amended or terminated, unless mutually agreed otherwise between the Optionee and the Board, which agreement must be in writing and signed by the Optionee and the Company. 16. Conditions Upon Issuance of Shares. Shares shall not be issued pursuant to the exercise of an Option unless the exercise of such Option and the issuance and delivery of such Shares pursuant thereto shall comply with all relevant provisions of law, including, without limitation, the Securities Act of 1933, as amended, the Exchange Act, the rules and regulations promulgated thereunder, and the requirements of any stock exchange or national market system upon which the Common Stock is then listed or traded, and shall be further subject to the approval of counsel for the Company with respect to such compliance. As a condition to the exercise of an Option, the Company may require the person exercising such Option to represent and warrant at the time of any such exercise that the Shares are being purchased only for investment and without any present intention to sell or distribute such Shares if, in the opinion of counsel for the Company, such a representation is required by any of the aforementioned relevant provisions of law. 17. Reservation of Shares. The Company, during the term of this Plan, shall at all times reserve and keep available such number of Shares as shall be sufficient to satisfy the requirements of the Plan. The inability of the Company to obtain authority from any regulatory body having jurisdiction, which authority is deemed by the Company's counsel to be necessary to the lawful issuance and sale of any Shares hereunder, shall relieve the Company of any liability in respect of the failure to issue or sell such Shares as to which such requisite authority shall not have been obtained. 18. Agreements. Options shall be evidenced by written agreements in such form as the Administrator shall approve from time to time. 19. Stockholder Approval. Continuance of the Plan shall be subject to approval by the stockholders of the Company within twelve (12) months before or after the date the Plan is adopted. Such stockholder approval shall be obtained in the degree and manner required under applicable state and federal law and the rules of any stock exchange or national market system upon which the Common Stock is then listed or traded. -12- 13 PEGASUS SYSTEMS, INC. 1997 AMENDED STOCK OPTION PLAN NOTICE OF GRANT Unless otherwise defined herein, the terms defined in the Plan shall have the same defined meanings in this Notice of Grant. [Optionee's Name and Address] - ------------------------------ You have been granted an option to purchase Common Stock of the Company, subject to the terms and conditions of the Plan and this Stock Option Agreement, as follows: Grant Number --------------------------- Date of Grant --------------------------- Vesting Commencement Date --------------------------- Exercise Price per Share $ --------------------------- Total Number of Shares Granted --------------------------- Total Exercise Price $ --------------------------- Type of Option: Incentive Stock Option ---- Nonstatutory Stock Option ---- Term/Expiration Date: ------------------------------------ Vesting Schedule: This Option may be exercised, in whole or in part, in accordance with the following schedule: ------------------------------------------------- Termination Period: ------------------ This Option may be exercised on or before the expiration of ninety (90) days after the date of termination of employment or consulting relationship, or such longer period as may be applicable upon death or Disability of Optionee as provided in the Plan, but in no event later than the Term/Expiration Date as provided above. 14 PEGASUS SYSTEMS, INC. 1997 AMENDED STOCK OPTION PLAN OPTION AGREEMENT 1. Grant of Option. Pegasus Systems, Inc. (the "Company"), hereby grants to the Optionee (the "Optionee") named in the Notice of Grant, an option (the "Option") to purchase the total number of shares of Common Stock (the "Shares") set forth in the Notice of Grant, at the exercise price per share set forth in the Notice of Grant (the "Exercise Price") subject to the terms, definitions and provisions of the 1997 Amended Stock Option Plan (the "Plan") adopted by the Company, which is incorporated herein by reference. Unless otherwise defined herein, the terms defined in the Plan shall have the same defined meanings in this Option Agreement. If designated in the Notice of Grant as an Incentive Stock Option ("ISO"), this Option is intended to qualify as an Incentive Stock Option as defined in Section 422 of the Code. However, if this Option is intended to be an Incentive Stock Option, to the extent that it exceeds the $100,000 rule of Code Section 422(d) it shall be treated as a Nonstatutory Stock Option ("NSO"). 2. Exercise of Option. This Option shall be exercisable during its term in accordance with the Vesting Schedule set out in the Notice of Grant and with the provisions of Section 9 of the Plan as follows: (i) Right to Exercise. (a) This Option may not be exercised for a fraction of a Share. (b) In the event of Optionee's death, disability or other termination of the Optionee's Continuous Status as an Employee or Consultant, the exercisability of the Option is governed by Sections 6, 7 and 8 below, subject to the limitation contained in subsection 2(i)(c). (c) In no event may this Option be exercised after the date of expiration of the term of this Option as set forth in the Notice of Grant. (ii) Method of Exercise. This Option shall be exercisable by written notice (in the form attached as Exhibit A) which shall state the election to exercise the Option, the number of Shares in respect of which the Option is being exercised, and such other representations and agreements as to the holder's investment intent with respect to such shares of Common Stock as may be required by the Company pursuant to the provisions of the Plan. Such written notice shall be signed by the Optionee and shall be delivered in person or by certified mail to the Secretary of the Company. The written notice shall be accompanied by payment of the Exercise Price. This Option shall be deemed to be exercised upon receipt by the Company of such written notice accompanied by the Exercise Price. 1 15 No Shares will be issued pursuant to the exercise of an Option unless such issuance and such exercise shall comply with all relevant provisions of law and the requirements of any stock exchange or national market system upon which the Common Stock is then listed. Assuming such compliance, for income tax purposes the Shares shall be considered transferred to the Optionee on the date on which the Option is exercised with respect to such Shares. 3. Optionee's Representations. In the event the Shares purchasable pursuant to the exercise of this Option have not been registered under the Securities Act of 1933, as amended, at the time this Option is exercised, Optionee shall, if required by the Company, concurrently with the exercise of all or any portion of this Option, deliver to the Company his or her Investment Representation Statement in the form attached hereto as Exhibit B. 4. Lock-Up Period. Optionee hereby agrees that if so requested by the Company or any representative of the underwriters (the "Managing Underwriter") in connection with any registration of the offering of any securities of the Company under the Securities Act, Optionee shall not sell or otherwise transfer any Shares or other securities of the Company during the 180-day period (or such longer period as may be requested in writing by the Managing Underwriter and agreed to in writing by the Company) (the "Market Standoff Period") following the effective date of a registration statement of the Company filed under the Securities Act. The Company may impose stop-transfer instructions with respect to securities subject to the foregoing restrictions until the end of such Market Standoff Period. 5. Method of Payment. Payment of the Exercise Price shall be by any of the following, or a combination thereof, at the election of the Optionee: (i) cash; or (ii) check; or (iii) surrender of other shares of Common Stock of the Company which (A) in the case of Shares acquired pursuant to the exercise of a Company option, have been owned by the Optionee for more than six (6) months on the date of surrender, and (B) have a Fair Market Value on the date of surrender equal to the Exercise Price of the Shares as to which the Option is being exercised; or (iv) to the extent authorized by the Company, delivery of a properly executed exercise notice together with such other documentation as the Administrator and the broker, if applicable, shall require to effect an exercise of the Option and delivery to the Company of the sale or loan proceeds required to pay the Exercise Price. 6. Restrictions on Exercise. This Option may not be exercised if the issuance of such Shares upon such exercise or the method of payment of consideration for such shares would constitute a violation of any applicable federal or state securities or other law or regulation, including any rule under Part 207 of Title 12 of the Code of Federal Regulations as promulgated by the Federal 2 16 Reserve Board. As a condition to the exercise of this Option, the Company may require Optionee to make any representation and warranty to the Company as may be required by any applicable law or regulation. 7. Termination of Relationship. In the event an Optionee's Continuous Status as an Employee or Consultant terminates, Optionee may, to the extent otherwise so entitled at the date of such termination (the "Termination Date"), exercise this Option during the Termination Period set out in the Notice of Grant. To the extent that Optionee was not entitled to exercise this Option at the date of such termination, or if Optionee does not exercise this Option within the time specified herein, the Option shall terminate. 8. Disability of Optionee. Notwithstanding the provisions of Section 6 above, in the event of termination of an Optionee's Continuous Status as an Employee or Consultant as a result of his or her Disability, Optionee may, but only within twelve (12) months from the date of such termination (and in no event later than the expiration date of the term of such Option as set forth in the Notice of Grant) exercise the Option to the extent otherwise entitled to exercise it at the date of such termination. To the extent that Optionee is not entitled to exercise the Option at the date of termination, or if Optionee does not exercise such Option to the extent so entitled within the time specified herein, the Option shall terminate, and the Shares covered by such Option shall revert to the Plan. 9. Death of Optionee. In the event of termination of Optionee's Continuous Status as an Employee or Consultant as a result of the death of Optionee, the Option may be exercised at any time within twelve (12) months following the date of death (but in no event later than the date of expiration of the term of this Option as set forth in Section 10 below), by Optionee's estate or by a person who acquired the right to exercise the Option by bequest or inheritance, but only to the extent the Optionee could exercise the Option at the date of death. 10. Non-Transferability of Option. Except as otherwise permitted by Section 12 of the Plan, this Option may not be transferred in any manner otherwise than by will or by the laws of descent or distribution and may be exercised during the lifetime of Optionee only by Optionee. The terms of this Option shall be binding upon the executors, administrators, heirs, successors and assigns of the Optionee. 11. Term of Option. This Option may be exercised only within the term set out in the Notice of Grant, and may be exercised during such term only in accordance with the Plan and the terms of this Option. Provided, however, that if this Option is designated as an Incentive Stock Option and the Optionee is a more than ten percent (10%) stockholder, the limitations set out in Section 7 of the Plan regarding Options designated as Incentive Stock Options and Options granted to more than ten percent (10%) stockholders shall apply to this Option. 12. Tax Consequences. Set forth below is a brief summary as of the date of this Option of some of the federal tax consequences of exercise of this Option and disposition of the Shares. 3 17 THIS SUMMARY IS NECESSARILY INCOMPLETE, AND THE TAX LAWS AND REGULATIONS ARE SUBJECT TO CHANGE. OPTIONEE SHOULD CONSULT A TAX ADVISER BEFORE EXERCISING THIS OPTION OR DISPOSING OF THE SHARES. (i) Exercise of an ISO. If this Option qualifies as an ISO, there will be no regular federal income tax liability upon the exercise of the Option, although the excess, if any, of the Fair Market Value of the Shares on the date of exercise over the Exercise Price will be treated as an adjustment to the alternative minimum tax for federal tax purposes and may subject the Optionee to the alternative minimum tax in the year of exercise. (ii) Exercise of an NSO. Upon the exercise of an NSO, the Optionee will be treated as having received compensation income (taxable at ordinary income tax rates) equal to the excess, if any, of the Fair Market Value of the Shares on the date of exercise over the Exercise Price. If Optionee is an Employee, the Company will be required to withhold from Optionee's compensation or collect from Optionee and pay to the applicable taxing authorities an amount equal to a percentage of this compensation income at the time of exercise. (iii) Disposition of Shares. In the case of an NSO, if Shares are held for at least one year, any gain realized on disposition of the Shares will be treated as long-term capital gain for federal income tax purposes. In the case of an ISO, if Shares transferred pursuant to the Option are held for at least one year after exercise and are disposed of at least two years after the Date of Grant, any gain realized on disposition of the Shares will also be treated as long-term capital gain for federal income tax purposes. If Shares purchased under an ISO are disposed of within such one-year period or within two years after the Date of Grant, any gain realized on such disposition will be treated as compensation income (taxable at ordinary income rates) to the extent of the difference between the Exercise Price and the lesser of (1) the Fair Market Value of the Shares on the date of exercise, or (2) the sale price of the Shares. (iv) Notice of Disqualifying Disposition of ISO Shares. If the Option granted to Optionee herein is an ISO, and if Optionee sells or otherwise disposes of any of the Shares acquired pursuant to the ISO on or before the later of (1) the date two years after the Date of Grant, or (2) the date one year after the date of exercise, the Optionee shall immediately notify the Company in writing of such disposition. Optionee agrees that Optionee may be subject to income tax withholding by the Company on the compensation income recognized by the Optionee. Pegasus Systems, Inc. By: ----------------------------------------- 4 18 OPTIONEE ACKNOWLEDGES AND AGREES THAT THE VESTING OF SHARES PURSUANT TO THE OPTION HEREOF IS EARNED ONLY BY CONTINUING CONSULTANCY OR EMPLOYMENT AT THE WILL OF THE COMPANY (NOT THROUGH THE ACT OF BEING HIRED, BEING GRANTED THIS OPTION OR ACQUIRING SHARES HEREUNDER). OPTIONEE FURTHER ACKNOWLEDGES AND AGREES THAT NOTHING IN THIS AGREEMENT, NOR IN THE COMPANY'S 1997 AMENDED STOCK OPTION PLAN WHICH IS INCORPORATED HEREIN BY REFERENCE, SHALL CONFER UPON OPTIONEE ANY RIGHT WITH RESPECT TO CONTINUATION OF EMPLOYMENT OR CONSULTANCY BY THE COMPANY, NOR SHALL IT INTERFERE IN ANY WAY WITH OPTIONEE'S RIGHT OR THE COMPANY'S RIGHT TO TERMINATE OPTIONEE'S EMPLOYMENT OR CONSULTANCY AT ANY TIME, WITH OR WITHOUT CAUSE. Optionee acknowledges receipt of a copy of the Plan and represents that he is familiar with the terms and provisions thereof, and hereby accepts this Option subject to all of the terms and provisions thereof. Optionee has reviewed the Plan and this Option in their entirety, has had an opportunity to obtain the advice of counsel prior to executing this Option and fully understands all provisions of the Option. Optionee hereby agrees to accept as binding, conclusive and final all decisions or interpretations of the Administrator upon any questions arising under the Plan or this Option. Optionee further agrees to notify the Company upon any change in the residence address indicated below. Dated: ---------------------------------------- -------------------- Optionee Residence Address: ---------------------------------------------------- ---------------------------------------------------- CONSENT OF SPOUSE The undersigned spouse of Optionee has read and hereby approves the terms and conditions of the Plan and this Option Agreement. In consideration of the Company's granting his or her spouse the right to purchase Shares as set forth in the Plan and this Option Agreement, the undersigned hereby agrees to be irrevocably bound by the terms and conditions of the Plan and this Option Agreement and further agrees that any community property interest shall be similarly bound. The undersigned hereby appoints the undersigned's spouse as attorney-in-fact for the undersigned with respect to any amendment or exercise of rights under the Plan or this Option Agreement. --------------------------------------- Spouse of Optionee 5 19 EXHIBIT A PEGASUS SYSTEMS, INC. 1997 AMENDED STOCK OPTION PLAN EXERCISE NOTICE Pegasus Systems, Inc. 3811 Turtle Creek Boulevard Suite 1100 Dallas, Texas 75219 Attention: Secretary 1 Exercise of Option. Effective as of today, ___________, 19__, the undersigned ("Optionee") hereby elects to exercise Optionee's option to purchase _________ shares of the Common Stock (the "Shares") of Pegasus Systems, Inc. (the "Company") under and pursuant to the 1997 Amended Stock Option Plan, as amended (the "Plan") and the [ ] Incentive [ ] Nonstatutory Stock Option Agreement dated ________, 19 (the "Stock Option Agreement"). 2 Representations of Optionee. Optionee acknowledges that Optionee has received, read and understood the Plan and the Stock Option Agreement and agrees to abide by and be bound by their terms and conditions. 3 Rights as Stockholder. Until the stock certificate evidencing such Shares is issued (as evidenced by the appropriate entry on the books of the Company or of a duly authorized transfer agent of the Company), no right to vote or receive dividends or any other rights as a stockholder shall exist with respect to the Optioned Stock, notwithstanding the exercise of the Option. The Company shall issue (or cause to be issued) such stock certificate promptly after the Option is exercised. No adjustment will be made for a dividend or other right for which the record date is prior to the date the stock certificate is issued, except as provided in Section 12 of the Plan. Optionee shall enjoy rights as a stockholder until such time as Optionee disposes of the Shares or the Company and/or its assignee(s) exercises the Right of First Refusal hereunder. Upon such exercise, Optionee shall have no further rights as a holder of the Shares so purchased except the right to receive payment for the Shares so purchased in accordance with the provisions of this Agreement, and Optionee shall forthwith cause the certificate(s) evidencing the Shares so purchased to be surrendered to the Company for transfer or cancellation. 4 Tax Consultation. Optionee understands that Optionee may suffer adverse tax consequences as a result of Optionee's purchase or disposition of the Shares. Optionee represents 1 20 that Optionee has consulted with any tax consultants Optionee deems advisable in connection with the purchase or disposition of the Shares and that Optionee is not relying on the Company for any tax advice. 5. Stop Transfer Orders. (a) Stop-Transfer Notices. Optionee agrees that, in order to ensure compliance with the restrictions referred to herein, the Company may issue appropriate "stop transfer" instructions to its transfer agent, if any, and that, if the Company transfers its own securities, it may make appropriate notations to the same effect in its own records. (b) Refusal to Transfer. The Company shall not be required (i) to transfer on its books any Shares that have been sold or otherwise transferred in violation of any of the provisions of this Agreement or (ii) to treat as owner of such Shares or to accord the right to vote or pay dividends to any purchaser or other transferee to whom such Shares shall have been so transferred. 6. Successors and Assigns. The Company may assign any of its rights under this Agreement to single or multiple assignees, and this Agreement shall inure to the benefit of the successors and assigns of the Company. Subject to the restrictions on transfer herein set forth, this Agreement shall be binding upon Optionee and his or her heirs, executors, administrators, successors and assigns. 7. Interpretation. Any dispute regarding the interpretation of this Agreement shall be submitted by Optionee or by the Company forthwith to the Administrator of the Plan, which shall review such dispute at its next regular meeting. The resolution of such a dispute by the Administrator shall be final and binding on the Company and on Optionee. 8. Governing Law; Severability. This Agreement shall be governed by and construed in accordance with the laws of the State of Texas excluding that body of law pertaining to conflicts of law. Should any provision of this Agreement be determined by a court of law to be illegal or unenforceable, the other provisions shall nevertheless remain effective and shall remain enforceable. 9. Notices. Any notice required or permitted hereunder shall be given in writing and shall be deemed effectively given upon personal delivery or upon deposit in the United States mail by certified mail, with postage and fees prepaid, addressed to the other party at its address as shown below beneath its signature, or to such other address as such party may designate in writing from time to time to the other party. 10. Further Instruments. The parties agree to execute such further instruments and to take such further action as may be reasonably necessary to carry out the purposes and intent of this Agreement. 11. Delivery of Payment. Optionee herewith delivers to the Company the full Exercise Price for the Shares. -2- 21 12. Lock-Up Period. Optionee hereby agrees that if so requested by the Company or any representative of the underwriters (the "Managing Underwriter") in connection with any registration of the offering of any securities of the Company under the Securities Act, Optionee shall not sell or otherwise transfer any Shares or other securities of the Company during the 180-day period (or such longer period as may be requested in writing by the Managing Underwriter and agreed to in writing by the Company) (the "Market Standoff Period") following the effective date of a registration statement of the Company filed under the Securities Act; provided, however, that such restriction shall apply only to the first registration statement of the Company to become effective under the Securities Act that includes securities to be sold on behalf of the Company to the public in an underwritten public offering under the Securities Act. The Company may impose stop-transfer instructions with respect to securities subject to the foregoing restrictions until the end of such Market Standoff Period. 13. Entire Agreement. The Plan, the Notice of Grant, and the Stock Option Agreement are incorporated herein by reference. This Agreement, the Plan, the Notice of Grant and the Stock Option Agreement constitute the entire agreement of the parties and supersede in their entirety all prior undertakings and agreements of the Company and Optionee with respect to the subject matter hereof. Submitted by: Accepted by: OPTIONEE: Pegasus Systems, Inc. By: ----------------------------------- Its: - --------------------------- ----------------------------------- (Signature) Address: - --------------------------- - --------------------------- -3- EX-10.13 3 SUPPLEMENTAL EMPLOYEE RETIREMENT PLAN 1 EXHIBIT 10.13 PEGASUS SYSTEMS, INC. SUPPLEMENTAL EMPLOYEE RETIREMENT PLAN 2 TABLE OF CONTENTS
ARTICLE I ESTABLISHMENT AND PURPOSE PAGE 1.1 Establishment 1 1.2 Purpose 1 ARTICLE II DEFINITIONS AND CONSTRUCTION 2.1 Definitions 2 2.2 Construction 5 ARTICLE III PARTICIPATION 3.1 Selection of Participants 6 ARTICLE IV BENEFITS 4.1 Eligibility for Benefits 7 4.2 Amount of Benefits 7 4.3 Form of Payment 8 4.4 Optional From of Payment 8 ARTICLE V FUNDING AND OTHER MATTERS 5.1 Funding 9 5.2 Continued Employment 9 5.3 Restriction on Assignment 9 5.4 Binding on Company, Participants and Their Successors 9 5.5 Governing Law 9 5.6 Severability 9 ARTICLE VI ADMINISTRATION 6.1 Administration 10 6.2 Finality of Determination 10 6.3 Expenses 10 6.4 Indemnification and Exculpation 10 ARTICLE VII AMENDMENT AND TERMINATION 7.1 Amendment and Termination 11
i 3 PEGASUS SYSTEMS, INC. SUPPLEMENTAL EMPLOYEE RETIREMENT PLAN ARTICLE I ESTABLISHMENT AND PURPOSE 1.1 Establishment. Pegasus Systems, Inc. hereby establishes the PEGASUS SYSTEMS, INC. SUPPLEMENTAL EMPLOYEE RETIREMENT PLAN, effective as of January 1, 2000. 1.2 Purpose. The purpose of this Plan is to provide supplemental retirement benefits to certain selected management employees of the Company on the terms and conditions set forth herein. 1 4 ARTICLE II DEFINITIONS AND CONSTRUCTION 2.1 Definitions. The following words and phrases shall have the meaning set forth below unless a different meaning is plainly required by the context: (a) The term "ACCRUED BENEFIT" shall mean a Participant's monthly retirement benefit equal to 3% of the Participant's Final Average Compensation multiplied by the Participant's Years of Service, not to exceed 60% of the Participant's Final Average Compensation. However, the maximum benefit for the Chief Executive Officer of the Company is 70% of Final Average Compensation. (b) The term "ACTUARIALLY EQUIVALENT" shall mean a benefit differing in time, period, and/or manner of payment from a specified benefit provided under this Plan, but having the same value at the date of commencement of benefits when computed using the 1994 GAM Static Male Table and an interest rate of 8% compounded annually. (c) The term "BENEFICIARY" shall mean the person or persons designated by a Participant to receive payment of all or a designated portion of the Participant's benefit payable under this Plan in the event of the Participant's death. In the event of the Participant's death, the Company shall make benefit payments payable under this Plan to the Participant's Beneficiary. Any payment made by the Company to the Participant's Beneficiary in good faith shall fully discharge the Company from its obligations with respect to such payment, and the Company shall have no further obligation to see to the application of any money so paid. (d) The term "BENEFIT COMMENCEMENT DATE" shall mean the first day a benefit is paid to a Participant under this Plan. (e) The term "CAUSE " shall mean: (i) "cause" (or any corresponding term) as defined in the employment agreement then in effect between the Company and the Participant; or (ii) If there is no employment agreement then in effect between the Company and the Participant, a reason which is based on the Participant's dishonest conduct, which is materially injurious to the Company. For this purpose, a determination of whether dishonest conduct materially injurious to the Company has been committed by the Participant shall be made by the Compensation Committee in good faith only after a full investigation of such alleged dishonest conduct and after an opportunity has been given the Participant to present the Participant's case to the 2 5 Compensation Committee. The decision made by the Compensation Committee shall be final and binding on the Participant and other persons affected by such decision. (f) The term "COMPENSATION COMMITTEE" shall mean the Compensation Committee of the board of directors of the Company; provided, however, that during any period the Compensation Committee is not constituted, the term shall mean the board of directors of the Company. (g) The term "CODE" shall mean the Internal Revenue Code of 1986, as amended. (h) The term "COMPANY" shall mean Pegasus Systems, Inc., a Delaware Corporation, its corporate successors, and the surviving corporation resulting from any merger of Pegasus Systems, Inc. with any other corporation or corporations. (i) The term "COMPENSATION" shall mean the sum of a Participant's base salary and bonus actually paid during a calendar month. (j) The term "DATE OF PARTICIPATION" shall mean the date the Compensation Committee specifies as the first day an Employee commences participation in the Plan. (k) The term "DETERMINATION DATE" shall mean the date on which a Participant ceases to be an Employee for any reason. (l) The term "EARLY RETIREMENT " shall mean the termination of the Participant's status as an Employee after the Participant attains age fifty (50), provided such termination is approved by the Compensation Committee as a "retirement" for purposes of this Plan. (m) The term "EFFECTIVE DATE" shall mean January 1, 2000. (n) The term "EMPLOYEE" shall mean a common law employee of the Company. (o) The term "FINAL AVERAGE COMPENSATION" shall mean the highest average monthly Compensation received by the Participant from the Company during any period of thirty-six (36) consecutive calendar months within the period of one hundred and twenty (120) consecutive calendar months ending on the Participant's Determination Date. If the Participant is an Employee of the Company for less than thirty-six (36) consecutive calendar months, the Participant's Final Average Compensation shall be the average monthly Compensation received by the Participant from the Company during the Participant's period as an Employee ending on the Participant's Determination Date. 3 6 (p) The terms "NORMAL RETIREMENT" and "LATE RETIREMENT" shall each mean the termination of the Participant's status as an Employee after the Participant attains age sixty (60). (q) The term "PARTICIPANT" shall mean an Employee who is selected to participate in the Plan pursuant to Article III. (r) The term "PLAN" shall mean the Pegasus Systems, Inc. Supplemental Employee Retirement Plan as set forth herein, as amended from time to time. (s) The term "PLAN YEAR" shall mean the 12-month period beginning on each January 1st and ending on the subsequent December 31st. (t) The term "TOTAL AND PERMANENT DISABILITY" shall mean: (i) The mental or physical disability, either occupational or non-occupational in cause, which satisfies the definition of "total and permanent disability" (or any corresponding term) as set forth in the employment agreement then in effect between the Company and the Participant; or (ii) If there is no employment agreement then in effect between the Company and the Participant or if the employment agreement then in effect has no such defined term or concept, the mental or physical disability, either occupational or non-occupational in cause, which satisfies the definition of "total and permanent disability" (or any corresponding term) as set forth in the principal long-term disability policy or plan provided by the Company then covering the Participant; or (iii) If there is no such policy then covering the Participant, the mental or physical disability which, as determined by the Compensation Committee in good faith upon receipt of and in reliance on sufficient competent medical advice from one or more individuals selected by the Compensation Committee who are qualified to give professional medical advice, impairs or is expected to impair the Participant's ability to substantially perform the Participant's duties as an Employee of the Company for a period of at least one hundred eighty (180) consecutive days. (u) The term "YEAR OF PARTICIPATION" shall mean the period of time, computed to the nearest completed month, commencing on the Participant's Date of Participation in the Plan and ending on the Participant's Determination Date. (v) The term "YEAR OF SERVICE" shall mean the period of time, computed 4 7 to the nearest completed month, commencing on the Participant's date of hire as an Employee of the Company and ending on the Participant's Determination Date. Notwithstanding the preceding sentence, the Compensation Committee may credit a Participant with additional full or partial Years of Service for all or any period during which the Participant rendered services for the Company in a status other than as an Employee. 2.2 Construction. Except when otherwise indicated by the context, the masculine shall also include the feminine gender and the singular shall also mean the plural. 5 8 ARTICLE III PARTICIPATION 3.1 Selection of Participants. Participation in the Plan shall be limited to those select management Employees of the Company who are designated as Participants by the Compensation Committee. No person shall have an automatic right to be selected as a Participant. 6 9 ARTICLE IV BENEFITS 4.1 Eligibility for Benefits. A Participant shall be eligible for a benefit determined in accordance with the provisions of Section 4.2 if the Participant's Determination Date occurs due to one of the following reasons: (a) Normal Retirement or Late Retirement; (b) Early Retirement; (c) Death; (d) Total and Permanent Disability; or (e) If Paragraphs (a) through (d) do not apply, termination as an Employee after the completion of (4) four Years of Participation for any reason other than Cause. 4.2 Amount of Benefits. The benefit payable to the Participant or the Participant's Beneficiary under the Plan shall be determined as follows: (a) Normal Retirement or Late Retirement. A monthly benefit equal to the Participant's Accrued Benefit commencing on the first day of the month following the Participant's Determination Date. (b) Early Retirement. A monthly benefit equal to the Participant's Accrued Benefit commencing on the first day of the month coinciding with or next following the Participant's sixtieth (60th) birthday. Alternatively, the Participant may, no later than six (6) months prior to the Participant's Determination Date, elect to receive reduced monthly payments commencing on the first (1st) day of any month after the Participant's Determination Date. The reduced benefit is equal to the Participant's Accrued Benefit reduced by 4% for each year (pro-rated for partial years) between the date of the Participant's first benefit payment and the first month coinciding with or next following the Participant's sixtieth (60th) birthday. (c) Death. A single lump sum payment that is Actuarially Equivalent to the Participant's Accrued Benefit. (d) Total and Permanent Disability. A monthly benefit commencing on the first (1st) day of the month coinciding with or next following the 7 10 Participant's sixtieth (60th) birthday. The amount of the benefit is the Participant's Accrued Benefit determined using the Years of Service the Participant would have at age sixty (60) and the Participant's Final Average Compensation at the time of the Participant's termination as an Employee for Total and Permanent Disability. Such benefit shall be reduced by any benefit the Participant receives from the long term disability plan provided by the Company. (e) Termination. A monthly benefit equal to the Participant's Accrued Benefit commencing on the first (1st) day of the month coinciding with or next following the Participant's sixtieth (60th) birthday. 4.3. Form of Payment. Except as otherwise specifically provided, payment of benefits from this Plan, if any, shall be payable as a single life annuity during the Participant's lifetime with the last payment to be made for the month in which the Participant's death occurs. 4.4 Optional Forms of Payment. In lieu of the form and amount of benefit payable under Section 4.3, a Participant may, no later than six (6) months prior to the date benefits commence, elect a benefit of Actuarially Equivalent value to the payment specified in Section 4.3 in one of the following forms: (a) Monthly payments to the Participant during the Participant's life and, if the Participant is survived by a Beneficiary, continuing monthly payments in the amount of 50% or 100% of the amount payable to the Participant to such Beneficiary for the Beneficiary's lifetime. (b) Monthly payments to the Participant during the Participant's life and, if the Participant dies within one hundred twenty (120) months of the date the Participant's benefits commenced, continuing monthly payments of the same amount to the Participant's Beneficiary for the balance of such one hundred twenty (120) month period. (c) Monthly payments to the Participant or the Participant's Beneficiary for a period of one hundred twenty (120) months. 8 11 ARTICLE V FUNDING AND OTHER MATTERS 5.1 Funding. All amounts paid under the Plan shall be paid in cash from the general assets of the Company or in such form from such other funding vehicle as the Board of Directors shall provide; provided, however, that all assets paid into any funding vehicle hereunder shall at all times prior to payment to the Participant or Beneficiary remain subject to the general creditors of the Company. No participants shall have any right, title, or interest whatever in or to, or any preferred claim in or to, any investment reserves, accounts, or funds that the Company may purchase, establish, or accumulate to aid in providing the payments described in the Plan. Nothing contained in the Plan and no action taken pursuant to its provisions, shall create or be construed to create a trust or a fiduciary relationship of any kind between the Company and the Participant or any other person. Neither the Participant nor a Beneficiary of the Participant shall acquire any interest greater than that of an unsecured creditor in any assets of the Company or in any investment reserves, accounts, or funds that the Company may purchase, establish or accumulate for the purposes of paying benefits hereunder. 5.2 Continued Employment. Nothing contained in the Plan shall be construed as conferring upon the Participant the right to continue in the employment of the Company in any capacity or as otherwise affecting the employment relationship. 5.3 Restriction on Assignment. The benefits provided hereunder are intended for the personal security of persons entitled to payment under the Plan and are not subject in any manner to the debts or other obligations of the persons to whom they are payable. The interest of any Participant or his Beneficiary may not be sold, transferred, assigned, or encumbered in any manner, either voluntarily or involuntarily, and any attempt to so anticipate, alienate, sell, transfer, assign, pledge, encumber, or charge the same shall be null and void; neither shall the benefits hereunder be liable for or subject to the debts, contracts, liabilities, engagements, or torts of any person to whom such benefits or funds are payable, nor shall they be subject to garnishment, attachment, or other legal equitable process nor shall they be an asset in bankruptcy. 5.4 Binding on Company, Participants and Their Successors. The Plan shall be binding upon the parties hereto, the successors and assigns of the Company and the heirs, executors and administrators of the Participants. 5.5 Governing Law. The Plan shall be construed in accordance with and governed by the laws of the State of Texas. 5.6 Severability. In the event any provision of the Plan shall be held invalid or illegal for any reason, any illegality or invalidity shall not affect the remaining parts of the Plan, but the Plan shall be construed and enforced as if the illegal or invalid provision had never been inserted. 9 12 ARTICLE VI ADMINISTRATION 6.1 Administration. The Compensation Committee shall be responsible for the general administration of the Plan. The Compensation Committee shall have that authority to make rules to administrator and interpret the Plan, to decide questions arising under the Plan, and to take such other action as may be appropriate to carry out the purposes of the Plan. 6.2 Finality of Determination. The determination of the Compensation Committee as to any disputed questions arising under the Plan, including questions of construction and interpretation shall be final, binding, and conclusive upon all persons. The Compensation Committee's determinations as to which Employees shall be Participants and the specific benefits which shall be paid to or on behalf of each such Participant shall be final, binding, and conclusive upon all persons. 6.3 Expenses. The expenses of administering the Plan shall be borne by the Company. 6.4 Indemnification and Exculpation. The members of the Compensation Committee, the board of directors, and the officers, directors, and employees of the Company shall be indemnified and held harmless by the Company against and from any and all loss, cost, liability, or expense that may be imposed upon or reasonably incurred by them in connection with or resulting from any claim, action, suit, or proceeding to which they may be a party or in which they may be involved by reason of any action taken or failure to act under the Plan and against and from any and all amounts paid by them in settlement (with the Company's written approval) or paid by them in satisfaction of a judgment in any such action, suit, or proceeding. The foregoing provision shall not be applicable to any person if the loss, cost, liability, or expense is due to such person's fraud or willful misconduct. 10 13 ARTICLE VII AMENDMENT AND TERMINATION 7.1 Amendment and Termination. The board of directors of the Company may at any time amend or terminate the Plan. However, if the Plan should be amended or terminated, the Company shall be liable for any benefits accrued under the Plan as of the date of such action for Participants who are or have been employed by the Company, where such accrued benefits shall be the actuarially determined benefits as of such date of amendment or discontinuance which each Participant or Beneficiary is receiving under the Plan or, with respect to Participants who are in the employment of the Company on such date, which each such Participant would have received as of such date under the Plan if the Participant's employment had terminated as of the date of amendment or termination, unless such benefit is otherwise provided by the Company. 11 EX-21.1 4 SUBSIDIARIES OF THE COMPANY 1 EXHIBIT 21.1 LIST OF SUBSIDIARIES Pegasus No. 1, LLC Delaware Pegasus GP, LLC Delaware Pegasus Business Intelligence, LP Delaware Pegasus Commission Processing, LP Delaware Pegasus Electronic Distribution, LP Delaware Pegasus No. 2, LLC Delaware TravelWeb, LP Delaware Pegasus Systems, Inc. (UK) Limited UK Pegasus Worldwide, Inc. Delaware EX-23.1 5 CONSENT OF PRICEWATERHOUSECOOPERS LLP 1 EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Registration Statements on Form S-8 (Nos. 333-40039, 333-40033, and 333-40035) of Pegasus Systems, Inc. of our reports dated February 10, 2000 related to the financial statements and financial statement schedule, which appear in this Form 10-K. PricewaterhouseCoopers LLP Dallas, Texas March 10, 2000 EX-27.1 6 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE COMPANY'S FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1999 FILED MARCH 10, 2000 WITH SECURITIES AND EXCHANGE COMMISSION AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH 10-K. 1,000 YEAR DEC-31-1999 JAN-01-1999 DEC-31-1999 107,545 35,283 4,936 (82) 0 150,267 20,038 (15,183) 163,540 6,661 0 0 0 205 156,566 163,540 0 38,036 0 12,180 16,204 0 27 13,354 4,688 8,666 0 0 0 8,666 0.47 0.44
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