20-F 1 a15-6508_120f.htm 20-F

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 20-F

 

(Mark One)

 

o

REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(g) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

OR

 

 

x

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2014.

 

 

OR

 

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                       to                        

 

 

OR

 

 

o

SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Date of event requiring this shell company report . . . . . . . . . . . . . . . . . . .

 

Commission file number: 001-36144

 

Qunar Cayman Islands Limited

(Exact name of Registrant as specified in its charter)

 

N/A

(Translation of Registrant’s name into English)

 

Cayman Islands

(Jurisdiction of incorporation or organization)

 

17th Floor, Viva Plaza, Building 18, Yard 29,

Suzhou Street, Haidian District

Beijing 100080

The People’s Republic of China

(Address of principal executive offices)

 

Sam Hanhui Sun, Chief Financial Officer

Telephone: +86 10 5760 3000

Email: sam.sun@qunar.com

Facsimile: +86 10 5760-3530

17th Floor, Viva Plaza, Building 18, Yard 29,

Suzhou Street, Haidian District

Beijing 100080

The People’s Republic of China

(Name, Telephone, Email and/or Facsimile number and Address of Company Contact Person)

 

Securities registered or to be registered pursuant to Section 12(b) of the Act:

 

Title of each class

 

Name of each exchange on which registered

American depositary shares (each representing three Class B ordinary shares, par value US$0.001 per share)

 

The NASDAQ Stock Market LLC
(The NASDAQ Global Market)

The NASDAQ Stock Market LLC

Class B ordinary shares, par value US$0.001 per share*

 

(The NASDAQ Global Market)

 


* Not for trading, but only in connection with the listing on The NASDAQ Global Market of American depositary shares. Currently, one ADS represents three Class B ordinary shares.

 

Securities registered or to be registered pursuant to Section 12(g) of the Act:

 

None

(Title of Class)

 



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Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:

 

None

(Title of Class)

 

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report: 224,299,179 Class A ordinary shares, par value US$0.001 per share, and 134,376,522 Class B ordinary shares, par value US$0.001 per share as of December 31, 2014.

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

x Yes   o No

 

If this report is an annual or transaction report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

o Yes   x No

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

x Yes   o No

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

x Yes   o No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.

 

Large accelerated filer x

 

Accelerated filer o

 

Non-accelerated filer o

 

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing.

 

U.S. GAAP x

 

International Financial Reporting Standards as issued
by the International Accounting Standard Boards
o

 

Other o

 

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.

o Item 17   o Item 18

 

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

o Yes   x No

 



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TABLE OF CONTENTS

 


 

 

Page

INTRODUCTION

1

FORWARD-LOOKING STATEMENTS

3

PART I

 

Item 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISORS

4

Item 2. OFFER STATISTICS AND EXPECTED TIMETABLE

4

Item 3. KEY INFORMATION

4

Item 4. INFORMATION ON THE COMPANY

47

Item 4A. UNRESOLVED STAFF COMMENTS

83

Item 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS

83

Item 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES

101

Item 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS

111

Item 8. FINANCIAL INFORMATION

114

Item 9. THE OFFER AND LISTING

115

Item 10. ADDITIONAL INFORMATION

116

Item 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

122

Item 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES

123

PART II

 

Item 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES

125

Item 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS

125

Item 15. CONTROLS AND PROCEDURES

125

Item 16 [RESERVED]

127

Item 16A. AUDIT COMMITTEE FINANCIAL EXPERT

127

Item 16B. CODE OF ETHICS

127

Item 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES

127

Item 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES

127

Item 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS

128

Item 16F. CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT

128

Item 16G. CORPORATE GOVERNANCE

128

Item 16H. MINE SAFETY DISCLOSURE

128

PART III

 

Item 17. FINANCIAL STATEMENTS

128

Item 18. FINANCIAL STATEMENTS

128

Item 19. EXHIBITS

129

 



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INTRODUCTION

 

Except where the context otherwise requires and for purposes of this annual report on Form 20-F only:

 

·                  “ADSs” refers to our American depositary shares, each of which represents three Class B ordinary shares, and “ADRs” refers to the American depositary receipts that evidence our ADSs;

 

·                  “active mobile users” refers to mobile users who accessed our mobile platform, including our mobile application and mobile website, on three or more different days in the preceding 12-month period as of any given date;

 

·                  “active web users” refers to web users who accessed our website on three or more different days in the preceding 12-month period as of any given date;

 

·                  “Baidu” refers to Baidu, Inc. and its subsidiaries;

 

·                  “Baidu Transaction” refers to a transaction completed pursuant to an agreement we entered into with Baidu Holdings Limited, a wholly-owned subsidiary and the investment vehicle of Baidu, Inc., under which Baidu paid US$306 million to acquire 181,402,116 of our ordinary shares and became our majority shareholder;

 

·                  Baidu Zhixin Cooperation” refers to the cooperating arrangements between Baidu and us relating to the Zhixin Platform pursuant to the Zhixin Cooperation Agreement;

 

·                  “China” or “PRC” refers to the People’s Republic of China, excluding, for purposes of this annual report, Hong Kong, Macau and Taiwan;

 

·                  “Cooperation Platform” refers to the travel-related Zhixin Platform and the travel-related Intermediate Page on PC Internet, as defined in the Zhixin Cooperation Agreement;

 

·                  Flight TSPs” refers to flight travel service providers, including flight ticket wholesalers and distributors;

 

·                  “mobile users” refers to users who accessed our mobile platform, including our mobile application and mobile website, in the preceding 12-month period as of any given date, each being identified by a unique serial number of the user’s mobile device;

 

·                  “ordinary shares” refers to our ordinary shares, par value US$0.001 per share;

 

·                  “OTAs” refers to online travel agencies;

 

·                  “our VIEs” refers to our variable interest entities, including Qunar.com Beijing Information Technology Company Limited which holds the licenses, approvals and key assets such as our mobile application and website that are essential for our business operations, and other variable interest entities established for purposes of holding the shares of certain of our investee companies;

 

·                  “our Principal VIE” refers to Qunar.com Beijing Information Technology Company Limited;

 

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·                  “qualified click” refers to a user click which occurs when the user is directed to a customer’s website or our SaaS system by clicking on a search result on our website, regardless of whether the user proceeds to make a purchase from the customer, excluding repeating clicks resulting from suspected frauds or mistakes;

 

·                  “SaaS” refers to our proprietary software-as-a-service, a system on which we host the web outlets for certain travel service providers;

 

·                  “TEFT” refers to Total Estimated Flight Ticket, which is calculated by dividing flight ticket volume sold on SaaS by qualified flight clicks from SaaS as a percentage of total qualified flight clicks;

 

·                  “TEHR” refers to Total Estimated Hotel Room Night Stayed volume, which is calculated by dividing hotel room night stayed volume sold on SaaS by qualified hotel clicks from SaaS as a percentage of total qualified hotel clicks;

 

·                  “VIE” refers to variable interest entities;

 

·                  “we,” “us,” “our company,” “our” or “Qunar” refers to Qunar Cayman Islands Limited, a Cayman Islands company, and unless the context requires otherwise, includes its predecessor entities and consolidated subsidiaries and variable interest entities;

 

·                  “web users” refers to users who accessed our website in the preceding 12-month period as of any given date, each being identified by a unique cookie installed on the user’s computer;

 

·                  “WFOE” refers to our wholly foreign owned enterprise, Beijing Qunar Software Technology Company Limited;

 

·                  Zhixin Cooperation Agreement” refers to the cooperation agreement we entered into with Baidu on October 1, 2013;

 

·                  “Zhixin Platform” refers to the Zhixin platform maintained on the Baidu website, or any successor, derivation or replacement thereof;

 

·                  “US$,” “U.S. dollars” or “dollars” refers to the legal currency of the United States;

 

·                  “RMB” or “Renminbi” refers to the legal currency of China;

 

·                  “funds receivable” refers to cash due from third-party on-line payment service providers, net of service fees, for clearing transactions;

 

·                  “restricted cash”  refers to the cash collected from users and deposited in banks in connection with their payments for Flight TSPs, OTAs and other travel services providers through our mobile or website platform which cannot be used for our operations and is subject to remittance to these customers in a short period of time, and cash deposits in connection with guarantee letters;

 

·                  “Exchange Act” refers to the Securities Exchange Act of 1934, as amended; and

 

·                  “Securities Act” refers to the Securities Act of 1933, as amended.

 

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FORWARD-LOOKING STATEMENTS

 

This annual report on Form 20-F contains forward-looking statements that are based on our current expectations, assumptions, estimates and projections about us and our industry. All statements other than statements of historical fact in this annual report are forward-looking statements. These forward-looking statements can be identified by words or phrases such as “may,” “will,” “expect,” “anticipate,” “estimate,” “plan,” “believe,” “is/are likely to” or other similar expressions. The forward-looking statements included in this annual report relate to, among others:

 

·                  our goals and strategies;

 

·                  our future business development, financial condition and results of operations;

 

·                  the expected growth of the online travel markets in China;

 

·                  our expectations regarding demand for and market acceptance of our products and services;

 

·                  our expectations regarding our relationships with our users and customers;

 

·                  our plans to invest in our technology platform;

 

·                  competition in our industry;

 

·                  fluctuations in general economic and business conditions in China; and

 

·                  relevant government policies and regulations relating to our industry.

 

These forward-looking statements involve various risks and uncertainties. Although we believe that our expectations expressed in these forward-looking statements are reasonable, we cannot assure you that our expectations will turn out to be correct. Our actual results could be materially different from and worse than our expectations. Important risks and factors that could cause our actual results to be materially different from our expectations are generally set forth in the “Risk Factors” section of Item 3 and elsewhere in this annual report. The forward-looking statements made in this annual report relate only to events or information as of the date on which the statements are made in this annual report. We undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date on which the statements are made or to reflect the occurrence of unanticipated events.

 

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PART I

 

Item 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISORS

 

Not Applicable.

 

Item 2. OFFER STATISTICS AND EXPECTED TIMETABLE

 

Not Applicable.

 

Item 3. KEY INFORMATION

 

A.                SELECTED FINANCIAL DATA

 

The following table presents the selected consolidated financial information for our company. The consolidated statements of operations data for the three years ended December 31, 2012, 2013 and 2014 and the consolidated balance sheets data as of December 31, 2013 and 2014 have been derived from our audited consolidated financial statements, which are included in this annual report beginning on page F-1. The selected consolidated statements of operations data for the years ended December 31, 2010 and 2011 and the consolidated balance sheets data as of December 31, 2011 and 2012 have been derived from our audited consolidated financial statements that were included in the final prospectus for our initial public offering filed on October 31, 2013 but are not included in this annual report. Our historical results do not necessarily indicate results expected for any future period. The selected consolidated financial data should be read in conjunction with, and are qualified in their entirety by reference to, our audited consolidated financial statements and related notes and “Item 5. Operating and Financial Review and Prospects” below. Our audited consolidated financial statements are prepared and presented in accordance with United States Generally Accepted Accounting Principles, or U.S. GAAP.

 

 

 

For the Year Ended December 31,

 

 

 

2010

 

2011

 

2012

 

2013

 

2014

 

 

 

RMB

 

RMB

 

RMB

 

RMB

 

RMB

 

US$

 

 

 

(in thousands, except for number of shares and per share (or ADS) data)

 

Consolidated Statements of Operations Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenues:

 

 

 

 

 

 

 

 

 

 

 

 

 

Pay-for-performance services(*) 

 

104,572

 

227,328

 

446,550

 

772,114

 

1,666,653

 

268,616

 

Display advertising services

 

15,014

 

33,334

 

46,670

 

63,503

 

87,894

 

14,166

 

Other services(*) 

 

4,296

 

1,765

 

8,505

 

15,305

 

2,208

 

356

 

Total revenues

 

123,882

 

262,427

 

501,725

 

850,922

 

1,756,755

 

283,138

 

Cost of revenues

 

(23,086

)

(43,682

)

(95,787

)

(173,395

)

(454,902

)

(73,317

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross profit

 

100,796

 

218,745

 

405,938

 

677,527

 

1,301,853

 

209,821

 

Operating expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

Product developments(1) 

 

(28,975

)

(83,110

)

(187,266

)

(319,021

)

(774,511

)

(124,829

)

Product sourcing(1) (**) 

 

 

 

(26,947

)

(67,271

)

(316,903

)

(51,075

)

Sales and marketing(1) (**) 

 

(62,481

)

(134,246

)

(216,853

)

(315,506

)

(890,861

)

(143,581

)

General and administrative(1) 

 

(13,418

)

(43,135

)

(50,574

)

(129,209

)

(399,914

)

(64,454

)

Online marketing expense for Baidu Zhixin Cooperation

 

 

 

 

 

(699,983

)

(112,817

)

Contract termination loss provision

 

 

 

 

 

(64,485

)

(10,393

)

Operating loss

 

(4,078

)

(41,746

)

(75,702

)

(153,480

)

(1,844,804

)

(297,328

)

Interest income, net

 

764

 

1,767

 

832

 

4,757

 

31,329

 

5,049

 

Foreign exchange gain (loss), net

 

430

 

(33

)

(656

)

1,469

 

(20,739

)

(3,343

)

Other income, net

 

2

 

6

 

363

 

1,057

 

4,873

 

785

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loss before income taxes

 

(2,882

)

(40,006

)

(75,163

)

(146,197

)

(1,829,341

)

(294,837

)

Income tax expense

 

(1,492

)

(5,945

)

(15,950

)

(41,092

)

(17,560

)

(2,830

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

(4,374

)

(45,951

)

(91,113

)

(187,289

)

(1,846,901

)

(297,667

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deemed dividend

 

 

(31,181

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss attributable to ordinary shareholders

 

(4,374

)

(77,132

)

(91,113

)

(187,289

)

(1,846,901

)

(297,667

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loss per share for ordinary shares

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic and diluted

 

(0.12

)

(0.51

)

(0.32

)

(0.61

)

(5.26

)

(0.85

)

Loss per ADS (each ADS represents three Class B ordinary shares)

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic and diluted

 

(0.36

)

(1.53

)

(0.96

)

(1.83

)

(15.78

)

(2.55

)

Weighted average number of ordinary shares used in computation:

 

 

 

 

 

 

 

 

 

 

 

 

 

Ordinary shares:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

36,246,976

 

151,820,420

 

281,682,508

 

 

 

 

Diluted

 

36,246,976

 

151,820,420

 

281,682,508

 

 

 

 

Class A ordinary shares:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

 

 

299,524,536

 

266,696,495

 

266,696,495

 

Diluted

 

 

 

 

299,524,536

 

266,696,495

 

266,696,495

 

Class B ordinary shares:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

 

 

6,403,973

 

84,713,813

 

84,713,813

 

Diluted

 

 

 

 

305,928,509

 

351,410,308

 

351,410,308

 

Other comprehensive (loss) income, net of tax of nil

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign currency translation adjustments

 

(3,739

)

(5,491

)

(542

)

(16,873

)

32,639

 

5,260

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive loss

 

(8,113

)

(51,442

)

(91,655

)

(204,162

)

(1,814,262

)

(292,407

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Selected Non-GAAP Financial Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted net income (loss) (2)(3) 

 

460

 

(9,865

)

(57,257

)

(117,662

)

(812,759

)

(130,992

)

Adjusted EBITDA (2)(4) 

 

4,025

 

2,771

 

(24,010

)

(51,669

)

(743,151

)

(119,773

)

Adjusted operating income (loss)(2)(5) 

 

756

 

(5,660

)

(41,846

)

(83,853

)

(810,662

)

(130,653

)

 

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* Pay-for-performance services also include revenue from group-buying business, which was reclassified from “other services”, as the commission is earned on a pay-for-performance basis. Comparative amounts for the prior periods have been reclassified to conform to the current period presentation.

 

** Starting from January 1, 2014, certain expenses we incur to develop, maintain the network of our travel service providers were reclassified from “sales and marketing” expenses to “product sourcing” expenses. Comparative amounts for the prior periods have been reclassified to conform to the current period presentation.

 

(1) Share-based compensation expenses were allocated in the operating expenses as follows:

 

 

 

For the Year Ended December 31,

 

 

 

2010

 

2011

 

2012

 

2013

 

2014

 

 

 

RMB

 

RMB

 

RMB

 

RMB

 

RMB

 

US$

 

 

 

(in thousands)

 

Product developments

 

2,356

 

13,546

 

15,241

 

20,784

 

59,884

 

9,652

 

Product sourcing

 

 

 

1,330

 

2,117

 

2,958

 

477

 

Sales and marketing

 

1,152

 

5,471

 

5,243

 

5,417

 

12,565

 

2,025

 

General and administrative

 

1,326

 

9,437

 

5,392

 

35,389

 

190,963

 

30,778

 

Total share-based compensation expenses

 

4,834

 

28,454

 

27,206

 

63,707

 

266,370

 

42,932

 

 


(2) See “—Non-GAAP Financial Measures.”

 

(3) Adjusted net income (loss) is defined as net income (loss) excluding share-based compensation expenses, non-cash expenses relating to free user traffic contributed by Baidu, Inc., expenses relating to Baidu Transaction, online marketing expenses for Baidu Zhixin Cooperation and contract termination loss provision.

 

(4) Adjusted EBITDA is defined as net income (loss) before income tax expense, interest expense, depreciation and amortization, further adjusted to exclude share-based compensation expense, non-cash expenses relating to free user traffic contributed by Baidu, Inc., expenses relating to Baidu Transaction, online marketing expenses for Baidu Zhixin Cooperation and contract termination loss provision.

 

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(5) Adjusted operating income (loss) is defined as operating income (loss) excluding share-based compensation expenses, non-cash expenses relating to free user traffic contributed by Baidu, Inc., expenses relating to Baidu Transaction, online marketing expenses for Baidu Zhixin Cooperation and contract termination loss provision.

 

 

 

As of December 31,

 

 

 

2011

 

2012

 

2013

 

2014

 

 

 

RMB

 

RMB

 

RMB

 

RMB

 

US$

 

 

 

(in thousands)

 

Consolidated Balance Sheets Data:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

123,445

 

148,511

 

980,129

 

812,972

 

131,027

 

Short-term investments

 

98,394

 

521

 

485,945

 

 

 

Accounts receivable, net

 

37,851

 

45,631

 

99,892

 

165,404

 

26,658

 

Funds receivable

 

3,347

 

30,838

 

241,122

 

413,084

 

66,577

 

Total current assets

 

290,546

 

359,478

 

2,055,134

 

1,950,933

 

314,433

 

Property and equipment, net

 

25,058

 

32,298

 

45,690

 

149,307

 

24,064

 

Total assets

 

320,973

 

392,352

 

2,124,775

 

2,267,717

 

365,489

 

Total current liabilities

 

193,020

 

315,016

 

704,485

 

2,366,687

 

381,440

 

Total liabilities

 

196,158

 

332,610

 

762,348

 

2,438,303

 

392,982

 

Total mezzanine equity

 

998,666

 

998,666

 

 

 

 

Total shareholders’ (deficit) equity

 

(873,851

)

(938,924

)

1,362,427

 

(170,586

)

(27,493

)

Total liabilities, mezzanine equity and shareholders’ (deficit) equity

 

320,973

 

392,352

 

2,124,775

 

2,267,717

 

365,489

 

 

Non-GAAP Financial Measures

 

To supplement our consolidated financial results presented in accordance with U.S. GAAP, we also use adjusted net income (loss), adjusted EBITDA and adjusted operating income (loss) as additional non-GAAP financial measures. These non-GAAP financial measures enable management to assess our operating results without considering the impact of expenses relating to non-cash charges, including share-based compensation expenses, depreciation and amortization, expenses relating to free user traffic contributed by Baidu, Inc., and expenses relating to other one-off events including the Baidu Transaction and contract termination loss provision recorded as a result of the legal proceedings between eLong and us, and online marketing expenses incurred in connection with Baidu Zhixin Cooperation. Furthermore, these non-GAAP financial measures eliminate the impact of items that we do not consider to be indicative of the performance of our business.

 

We present these non-GAAP financial measures because they are used by management to evaluate our operating performance, formulate business plans, and make strategic decisions on capital allocation. We also believe that these non-GAAP financial measures provide useful information to investors and others in understanding and evaluating our operating performance and consolidated results of operations in the same manner as our management and in comparing financial results across accounting periods and to those of our peer companies. The presentation of these non-GAAP financial measures is not intended to be considered in isolation or as a substitute for the financial information prepared and presented in accordance with U.S. GAAP. A limitation of using these non-GAAP financial measures is that these non-GAAP measures do not include all items that impact our results of operations for the period. The following table reconciles our adjusted net income (loss), adjusted EBITDA and adjusted operating income (loss) in the years presented to the most directly comparable financial measure calculated and presented in accordance with U.S. GAAP.

 

 

 

For the Year Ended December 31,

 

 

 

2010

 

2011

 

2012

 

2013

 

2014

 

 

 

RMB

 

RMB

 

RMB

 

RMB

 

RMB

 

US$

 

 

 

(in thousands)

 

Net loss attributable to ordinary shareholders 

 

(4,374

)

(45,951

)

(91,113

)

(187,289

)

(1,846,901

)

(297,667

)

Add: 

 

 

 

 

 

 

 

 

 

 

 

 

 

Share-based compensation expenses 

 

4,834

 

28,454

 

27,206

 

63,707

 

266,370

 

42,932

 

Non-cash expenses relating to free user traffic contributed by Baidu

 

 

1,200

 

6,650

 

5,920

 

3,304

 

533

 

Expenses relating to Baidu Transaction

 

 

6,432

 

 

 

 

 

Online marketing expense for Baidu Zhixin Cooperation

 

 

 

 

 

699,983

 

112,817

 

Contract termination loss provision

 

 

 

 

 

64,485

 

10,393

 

Adjusted net income (loss)

 

460

 

(9,865

)

(57,257

)

(117,662

)

(812,759

)

(130,992

)

Add:

 

 

 

 

 

 

 

 

 

 

 

 

 

Income tax expense

 

1,492

 

5,945

 

15,950

 

41,092

 

17,560

 

2,830

 

Depreciation and amortization

 

2,073

 

6,691

 

16,876

 

22,735

 

52,048

 

8,389

 

Interest expense

 

 

 

421

 

2,166

 

 

 

Adjusted EBITDA

 

4,025

 

2,771

 

(24,010

)

(51,669

)

(743,151

)

(119,773

)

Operating loss

 

(4,078

)

(41,746

)

(75,702

)

(153,480

)

(1,844,804

)

(297,328

)

Add:

 

 

 

 

 

 

 

 

 

 

 

 

 

Share-based compensation expenses

 

4,834

 

28,454

 

27,206

 

63,707

 

266,370

 

42,932

 

Non-cash expenses relating to free user traffic contributed by Baidu

 

 

1,200

 

6,650

 

5,920

 

3,304

 

533

 

Expenses relating to Baidu Transaction

 

 

6,432

 

 

 

 

 

Online marketing expense for Baidu Zhixin Cooperation

 

 

 

 

 

699,983

 

112,817

 

Contract termination loss provision

 

 

 

 

 

64,485

 

10,393

 

Adjusted operating income (loss)

 

756

 

(5,660

)

(41,846

)

(83,853

)

(810,662

)

(130,653

)

 

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In light of the foregoing limitations for each of the non-GAAP financial measures, when assessing our operating and financial performance, you should not consider adjusted net income (loss), adjusted EBITDA or adjusted operating income (loss) in isolation or as a substitute for our net loss, operating loss or any other operating performance measure that is calculated in accordance with U.S. GAAP. In addition, because these non-GAAP measures may not be calculated in the same manner by all companies, they may not be comparable to other similarly-titled measures used by other companies.

 

Exchange Rate Information

 

Our business is primarily conducted in China and almost all of our revenues are denominated in RMB. Solely for the convenience of the reader, unless otherwise noted, all translations from RMB to U.S. dollars and from U.S. dollars to RMB in this annual report were made at a rate of RMB6.2046 to US$1.00, the exchange rate as set forth in the H.10 statistical release of the U.S. Federal Reserve Board on December 31, 2014. We make no representation that any RMB or U.S. dollar amounts could have been, or could be, converted into U.S. dollars or RMB, as the case may be, at any particular rate, or at all. The PRC government imposes control over its foreign currency reserves in part through direct regulation of the conversion of RMB into foreign exchange and through restrictions on foreign trade. On April 24, 2015, the exchange rate as set forth in the H.10 weekly statistical release by the Federal Reserve was RMB6.1930 to US$1.00.

 

The following table sets forth information concerning the exchange rates in RMB and U.S. dollars for the periods indicated.

 

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RMB per U.S. Dollar Exchange Rate

 

 

 

Average(1)

 

High

 

Low

 

Period End

 

2010

 

6.7603

 

6.8330

 

6.6000

 

6.6000

 

2011

 

6.4475

 

6.6364

 

6.2939

 

6.2939

 

2012

 

6.2990

 

6.3879

 

6.2221

 

6.2301

 

2013

 

6.1478

 

6.2438

 

6.0537

 

6.0537

 

2014

 

6.1620

 

6.2591

 

6.0402

 

6.2046

 

October 2014

 

6.1251

 

6.1385

 

6.1107

 

6.1124

 

November 2014

 

6.1249

 

6.1429

 

6.1117

 

6.1429

 

December 2014

 

6.1886

 

6.2256

 

6.1490

 

6.2046

 

2015

 

 

 

 

 

 

 

 

 

January 2015

 

6.2181

 

6.2535

 

6.1870

 

6.2495

 

February 2015

 

6.2518

 

6.2695

 

6.2399

 

6.2695

 

March 2015

 

6.2386

 

6.2741

 

6.1955

 

6.1990

 

April 2015 (through April 24, 2015)

 

6.2000

 

6.2152

 

6.1927

 

6.1930

 

 


Source: H.10 statistical release of the U.S. Federal Reserve Board

 

(1)         Annual averages were calculated using the average of the exchange rates on the last day of each month during the relevant period. Monthly averages were calculated using the average of the daily rates during the relevant month.

 

B.                CAPITALIZATION AND INDEBTEDNESS

 

Not applicable.

 

C.                REASONS FOR THE OFFER AND USE OF PROCEEDS

 

Not applicable.

 

D.                RISK FACTORS

 

Risks Related to Our Business

 

We have operated at a loss and we may not be profitable in the near future.

 

We have not achieved profitability. We have incurred significant losses in 2014 and may continue to incur significant losses in the future. We may not be able to achieve profitability or avoid net losses in the future. Although our revenues have grown significantly in recent periods, such growth rates may not be sustainable and may decrease in the future. In addition, our ability to become profitable depends on various factors, including our ability to control our costs and expenses which we expect will increase as we expand our business and invest more in product developments, product sourcing and sales and marketing. For example, we have significantly increased our headcount in 2014 relating to our product sourcing and product development efforts and we may incur additional sales and marketing expenses in the future as our business continuously grows.

 

We may incur significant losses in the future for a number of reasons, including the significant non-cash expenses we may incur in connection with the exclusive right that Baidu granted to us to operate its new travel platform and the changes in fair value of the warrants we will issue to Baidu pursuant to the business cooperation framework agreement we entered into with Baidu on October 1, 2013, or the Zhixin Cooperation Agreement, and other risks described in this annual report. As long as Baidu’s non-competition undertaking as provided in the Zhixin Cooperation Agreement stays in effect, Baidu has the option to settle all or part of the share warrants (i) by class B ordinary shares at an exercise price of zero, or (ii) by cash for a total price equivalent to the number of underlying Class B ordinary shares issuable under the share warrants and the public offering price of our Class B ordinary shares in our initial public offering. If we utilize the Zhixin traffic in full for 2015 and 2016, and assuming all the warrants are exercisable without any downward adjustment and Baidu chooses to settle all of the then-exercisable warrants in cash after January 15, 2015, 2016 or 2017, we would be required to pay, in aggregate, approximately US$57 million, US$137 million or US$229 million, respectively, to Baidu within three months upon Baidu’s exercise of its warrants in cash, which could materially and adversely, affect our liquidity, financial position and cash flows. We may also need to fund such settlement amount through external borrowings, which might not be available to us on commercially favorable terms and might subject us to restrictive covenants, or equity offerings which may cause dilution to the existing shareholders. See “Item 7. Major Shareholders and Related Party TransactionsB. Related Party TransactionsTransactions with Certain Directors, Shareholders and Affiliates and Key Management Personnel.”

 

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We may further encounter unforeseen expenses, difficulties, complications, delays and other unknown events. If our revenues fail to increase at the rate we anticipate, or if our costs and expenses increase at a more rapid rate than our revenues, we may not be able to achieve profitability and may incur greater losses.

 

If we fail to develop and implement new and updated features and services for our mobile applications to meet market requirements, or if the updated features and services for our mobile application do not gain market popularity, our business may be materially and adversely affected.

 

An increasing number of our users are using smartphones and other mobile devices to access our services. The emergence and improved functionality of mobile platforms has led to increased usage by consumers of standalone mobile applications to search and purchase travel products. If we are unable to offer innovative, user-friendly, feature-rich mobile applications for our travel services, along with effective marketing and advertising, or if our mobile applications are not used by consumers, we could lose market share to existing competitors or new entrants and our future growth and results of operations could be adversely affected.

 

The restraints in functionality, speed and memory of mobile devices may reduce user experience in the use of our services through such devices, and the versions of the mobile applications we develop for these devices may fail to prove attractive to users. Manufacturers or distributors of mobile devices may establish unique technical standards for their devices, and our mobile applications and services may not work or be viewable on these devices as a result. As new mobile devices and technologies continue to emerge, it is difficult to predict the challenges we may encounter in developing or adapting new versions of our mobile applications to these devices and technologies and we may need to devote significant resources to the creation, support and maintenance of such mobile applications. To remain competitive, we must continue to enhance and improve the responsiveness, functionality and features of our mobile applications. We cannot assure you that we will be able to use new technologies effectively or adapt our mobile applications, website, proprietary technologies and systems to meet customer requirements or emerging industry standards. If we are unable to adapt in a cost-effective and timely manner in response to changing market conditions or customer requirements, whether for technical, legal, financial or other reasons, or if the updated features and services for our mobile application do not gain market popularity, our business, prospects, financial condition and results of operations may be materially and adversely affected.

 

Implementation and execution risks associated with our transitioning into a one-stop mobile and online commerce travel platform may adversely affect our business and operating results.

 

Historically, we enjoyed market leading position in the travel industry in China with our unique business model as a search-based travel commerce platform. We are currently transitioning to a mobile and online commerce travel platform which focuses on providing a one-stop solution for our users. Our efforts to execute such transition have required and will continue to require significant efforts and financial resources over an extended period of time. For example, our product development and product sourcing headcount has increased significantly from 2013 to 2014 as a result of our focus on the development of our mobile platform and hotel direct business. While we believe our expertise and investments in technology and our efforts to allocate dedicated personnel in product development and product sourcing provides us with a strong foundation to compete effectively, it is uncertain whether our transition can be successfully implemented or generate the level of revenue we expect. Any execution risks relating to our transition may slow down our growth and could have a material adverse effect on our business, results of operations and financial condition

 

Our growth may slow down and we may not be able to manage our future growth effectively.

 

We have experienced rapid revenue growth since the commencement of our operations. Our total annual revenues grew by 69.6%, from RMB501.7 million in 2012 to RMB850.9 million, in 2013 and by 106.5%, to RMB1,756.8 million (US$283.1 million), in 2014. Our web users increased from 187.3 million in 2012 to 234.2 million in 2013 and further to 282.4 million in 2014. While we expect our business to grow, we may not be able to maintain our historical growth rates in future periods. Revenue growth may slow or revenues may decline for any number of reasons, including our inability to attract and retain users, decreased customer spending, increased competition, slowing growth of the overall online travel market, the emergence of alternative business models, changes in government policies or general economic conditions. As the size of our user base continues to increase, we anticipate that the growth rate of our user base may decline over time. We may also lose users for other reasons, such as failure to deliver satisfactory search results or transaction experiences or high quality services. In addition, even if our user base continues to grow, there can be no assurance that our revenues will grow at the same rate or at all. If our growth rates decline, investors’ perceptions of our business and business prospects may be adversely affected.

 

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We intend to increase our service offerings to achieve future growth. In doing so, we will need to work with a large number of new travel service providers and efficiently establish and maintain mutually beneficial relationships with our existing and new travel service providers. To support our growth, we will also need to implement a variety of new and upgraded managerial, operating, financial and human resource systems, procedures and controls. These efforts will place significant strain on our management and resources, and failures to effectively manage our growth will materially and adversely affect our financial condition and business prospects.

 

Competition could adversely affect us.

 

We operate in the highly competitive and rapidly evolving travel industry in China. Our unique business model as a travel commerce platform caused us to maintain a cooperative-competitive relationship with some of our competitors as they are also our travel service providers or even customers. In the online travel sector, we compete primarily with other service providers who also provide online flight and hotel booking services, such as Ctrip.com, or Ctrip, and e-commerce websites, such as the travel channel of Taobao.com. As we entered into the hotel direct business, we are also directly competing with OTAs. We also compete with other travel search providers and traditional travel agencies. Certain current and potential competitors, including OTAs, non-OTA travel service providers, travel channels of general portals, general search engines and e-commerce websites, have a longer history, larger user base, greater brand recognition and significantly greater financial, marketing, personnel, technical and other resources than we have. Intense competition may lead to various unfair competition practices or legal or administrative proceedings brought against us by our competitors. Furthermore, if our competitors merge or consolidate among themselves, we may face increased competition, which could materially and adversely impact our business.

 

In connection with the Baidu Transaction in July 2011, Baidu agreed not to engage in certain businesses that may cause it to compete with us until Baidu ceases to hold 50% or more of the voting power attaching to our shares or July 2014, whichever is later. In addition, under the Zhixin Cooperation Agreement, Baidu agreed not to engage in certain businesses that may cause it to compete with us until the latest of (i) the termination of the Zhixin Cooperation Agreement, (ii) the termination of our business cooperation agreement entered into with Baidu in July 2011, and (iii) the date on which Baidu holds less than 50% of the voting power attaching to our outstanding shares. Once these non-compete agreements expire and if Baidu decides to enter into the same business as ours, our competitive landscape may change and we may face increased competition. Furthermore, Baidu operates a wide array of business lines under various business units which may operate outside of its control and choose not to abide by the non-competing arrangements between Baidu and us. If such a situation occurs, we may face increased competition and our business and operating results may be materially and adversely affected.

 

Meanwhile, our platforms display and provide links to information from some of our competitors. Certain travel service providers may block our access to their information or make claims against us alleging that we inappropriately used their information. The comprehensiveness of our search results could be impaired if we are denied access to travel product information from these certain travel service providers. In addition, certain travel service providers may leverage their established reputation or relationships to prevent other travel service providers from becoming our customers, which would limit our ability to generate more revenues.

 

Our industry is characterized by relatively low fixed costs. New competitors face low entry barriers. In addition, new and enhanced technologies may help new entrants to compete with us. Smaller companies or new competitors may be acquired by, receive investment from or enter into strategic alliances with well-established and well-financed companies or investors which would help enhance their competitive positions. Some of our competitors may devote greater resources to marketing and promotional campaigns and technological development than us. Furthermore, competition in the PRC online travel industry is intense and from time to time such competition may lead to industry consolidation. If we were to be acquired by or merged with our competitors or other industry players, we may not be able to carry out our strategies as we currently plan and may not be able to realize the value that our shareholders expect us to achieve.

 

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We may also face competition from foreign travel services or travel information providers if they enter the China market by partnering with or acquiring our existing competitors. These foreign competitors may leverage their global brand recognition, broad geographical presence and sophisticated technologies to quickly attract Chinese users who seek travel-related information online. These competitors may also be able to devote greater resources than we can to establish and customize their online travel information platform to satisfy changing user demands and market needs.

 

Increased competition could result in reduced user traffic and loss of market share for us. If we do not compete successfully against existing and future competitors, we may lose our leadership position, and our business, results of operations and financial condition may be materially and adversely affected.

 

If we are unable to attract, train and retain qualified personnel, our business may be materially and adversely affected.

 

Our future success depends, to a significant extent, on our ability to attract, train and retain qualified personnel, particularly management, technical engineers and product development personnel, with expertise in the online travel or search industry. Since our industry is characterized by high demand and intense competition for talent, we may not be able to attract or retain qualified staff or other skilled employees that we will need to achieve our strategic objectives. As we are still a relatively young company, our ability to train and integrate new employees into our operations may not meet the growing demands of our business. If we are unable to attract, train and retain qualified personnel, our business, financial condition and results of operations may be materially and adversely affected.

 

Our business may be disrupted if we lose the service of our senior management team.

 

Our success heavily depends upon the continued services of our senior management team. In particular, we rely on the expertise and experience of Mr. Chenchao (CC) Zhuang, our co-founder and chief executive officer. If one or more of our senior executive officers were unable or unwilling to continue in their present positions, we might not be able to replace them easily or at all and our business, financial condition and results of operations may be materially and adversely affected. If any of our senior executive officers joins a competitor or forms a competing business, we may lose users, travel service providers, know-how and key professionals and staff members. Each of our senior executive officers has entered into an employment agreement with us. However, if any dispute arises between our senior executive officers and us, we may incur substantial costs and expenses enforcing such agreements in China or we may be unable to enforce them at all.

 

If we do not continue to innovate and provide attractive products and services to our users, we may not be able to attract and retain a large and active user base and our financial condition and operating results could suffer.

 

Our success depends on our ability to attract and retain users, which require our continuous innovation to provide features and functions that make our mobile applications and website attractive to users. Participants in the online travel industry are constantly developing new technologies and products and services. If we fail to innovate and improve our technology at a competitive pace, we may lose users to our competitors. Constantly changing user preferences have affected and will continue to affect the online travel industry. We must stay abreast of emerging user preferences and be able to anticipate trends that will appeal to existing and potential users. We have developed products and services, such as itinerary management tools and location-based services, that are relatively new to users and they may not be able to achieve popularity. If we fail to constantly tailor our products and services to accommodate our users’ changing needs and preferences, we may lose users. Decreases in our user traffic would significantly affect our business, resulting in fewer transactions, which would materially and adversely affect our financial condition and operating results.

 

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We may not be able to adequately monitor or ensure the service quality of travel service providers, and increases in user dissatisfaction with travel service providers could materially and adversely affect our results of operations.

 

Substantial demand has been, and will continue to be, placed on our operational, technological and other resources to ensure that our travel service providers provide high-quality travel products and services to our users on a consistent basis. Certain travel service providers may lack adequate quality control for their travel products and customer service. Although we do not have a legal obligation to ensure the quality of the travel products and services provided by our travel service providers, our reputation, brand and user experience are negatively affected if the travel service providers fail to provide high quality travel products to our users. We have established a user service center with a dedicated team to handle user complaints against travel service providers and to monitor the performance of travel service providers on a regular basis. We also screen our travel service providers by reviewing copies of their requisite licenses and permits prior to including them in our search results. However, we cannot ensure that our travel service providers will not fail to provide quality products and services to our users. Similarly, we cannot ensure that every travel service provider has obtained, and duly maintained, all of the licenses and permits required for them to provide travel products to consumers.

 

Our ability to control the service quality of travel service providers is limited, and the actions we take to monitor and ensure quality products and services from the travel service providers may be inadequate in timely discovering and remedying quality issues, many of which are beyond our control. There have been user complaints against us due to the failure of travel service providers to provide satisfactory travel products or services. If our users are dissatisfied with the travel products and services provided by our travel service providers, they may reduce their use of, or completely forgo, our mobile or website platform, and in certain rare cases, demand refunds from us for their payments to the travel service providers. Increases in user dissatisfaction with travel service providers could reduce our user traffic and materially and adversely affect our results of operations.

 

Merger, acquisitions, investments and strategic alliances could result in operating difficulties, dilution and other harmful consequences.

 

We from time to time evaluate and enter into discussions regarding a wide array of potential long-term investments, merger or acquisition transactions. Any transactions that we enter into could be material to our financial condition and results of operations. The process of integrating with another company or integrating an acquired company, business, asset or technology may create unforeseen operating difficulties and expenditures. The areas where we face risks include:

 

·                  significant costs of identifying and consummating acquisitions;

 

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

 

·                  difficulties in integrating the management, technologies and employees of the acquired businesses;

 

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

 

·                  coordination of travel products and services, engineering and sales and marketing functions;

 

·                  retention of employees from the businesses we acquire;

 

·                  liability for activities of the acquired company before the acquisition;

 

·                  potential significant impairment losses related to goodwill and other intangible assets acquired or investments in other businesses;

 

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

 

·                  significant expenses in obtaining approvals for the transaction from shareholders and relevant government authorities in China;

 

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

 

·                  failure to achieve the intended objectives, benefits or revenue-enhancing opportunities.

 

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Our failure to address these risks or other problems encountered in connection with our future acquisitions and investments could cause us to fail to realize the anticipated benefits of such acquisitions or investments, incur unanticipated liabilities and expenses and harm our business generally. If we use our equity securities to pay for acquisitions, we may dilute the value of your ADSs and the underlying Class B ordinary shares. If we borrow funds to finance acquisitions, such debt instruments may contain restrictive covenants that could, among other things, restrict us from distributing dividends. Such acquisitions and investments may also lead to significant amortization expenses related to intangible assets, impairment charges or write-offs.

 

We may in the future enter into strategic alliances with various third parties to further our business purposes from time to time. Strategic alliances with third parties could subject us to a number of risks, including risks associated with sharing proprietary information, non-performance by the counter-party, reputation risk and an increase in expenses incurred in establishing new strategic alliances, any of which may materially and adversely affect our business. To the extent the third parties suffer negative publicity or harm to their reputations from events relating to their business, we may also suffer negative publicity or harm to our reputation by virtue of our association with such third parties.

 

The Internet industry in China has recently experienced a general increase in consolidation activities.  As a result, there is also a general increase in rumors and speculations as to potential consolidation activities in the Internet industry in China, including in the online travel industry in China in general or involving us specifically.  Any such rumors and speculations, whether or not they are substantiated or involving the online travel industry in China or us, may lead to fluctuations in the price of our ADSs that are not related to our operating performance or business.

 

Any rumors and negative publicity about us or our affiliates may adversely affect our brand, public image and reputation, which may seriously harm our ability to attract users, customers, business partners and other market participants, and result in material adverse impact on our business, results of operations and prospects.

 

Our business depends on maintaining the trust of users, customers, business partners and other market participants. Rumors or negative publicity about us, our products and developments, our financial results or our market position, spread through the media, communications among market participants, Internet postings or otherwise, even if factually inaccurate, could adversely damage our brand, public image and reputation, seriously harm our ability to attract users, customers, business partners and other market participants, and result in a material adverse impact on our business, results of operations and prospects.

 

Difficulties in developing new service offerings may negatively affect our business, financial condition and results of operations.

 

As part of our growth strategy, we intend to develop and offer new services to satisfy the evolving needs of our users and customers. In 2011 and 2012, we launched travel group-buying services and new hotel promotion services, such as “last-minute sale” promotion. In 2013, we launched New Destination services for mobile users. We also launched designated car services for pickup and drop off to and from airports, train stations and tourist attraction sites as well as other travel-related ground transportation services covering over 155 cities in China as of March 31, 2015. Starting from the fourth quarter of 2014, we began to establish limited merchant business relationships with selected travel service suppliers, particularly for our vacation package products and hotels in popular destinations and during peak seasons, in order to secure adequate supplies for our users. In such merchant business relationships, we purchase hotel room bookings before selling them to our customers and thereby incur inventory risk for any such bookings that remain unsold.

 

New services we offer and may offer in the future present operating, marketing and regulatory challenges that are different from those we currently encounter. Certain new service offerings, such as our car services business, may be subject to on-going PRC regulatory oversight. In addition, the market for some of these new services, such as the group buying services, is highly competitive due to a number of factors, such as the relatively low barriers to entry, the continued growth of e-commerce in China and the growing acceptance of online shopping by Chinese internet users. If we fail to successfully develop and operate these new services in an increasingly competitive market, we may not be able to capture the growth opportunities associated with these new services or recover the development and marketing costs, and our future results of operations and growth strategies could be materially and adversely affected.

 

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The proper functioning of our platform is essential to our business. Any failure to maintain the satisfactory performance and security of our platform will materially and adversely affect our business operations, reputation, financial condition and results of operations.

 

The satisfactory performance, reliability and availability of our mobile applications, website and SaaS system are critical to our ability to attract and retain users and provide quality service to our users. Any system interruptions caused by our servers, telecommunications failures, computer viruses, hacking or other attempts to harm our systems that result in the unavailability or slowdown of our mobile platform, website or SaaS system would reduce the number of users visiting our mobile platform and website. Some of the telecommunications carriers have system constraints which can affect our user experience. For example, if a large number of users use the same telecommunications carrier at the same time for services requiring a large amount of data transmission, the users could experience reduced speed or other technical issues due to the carrier’s capacity restraints. Our servers may also be vulnerable to computer viruses, physical or electronic break-ins, or other potential disruptions, which could lead to interruptions, delays, loss of data or the inability to accept and process user queries. We may also experience interruptions caused by reasons beyond our control such as power outages. Unexpected interruptions could damage our reputation and result in a material decrease in our revenues.

 

In addition, our internet systems, including our mobile applications, website and SaaS system, could contain undetected errors or “bugs” that could adversely affect their performance. We regularly update and enhance our mobile applications, website and other internet systems and introduce new versions of software products and applications. The occurrence of errors in any of these may cause us to lose market share, damage our reputation and brand name and materially and adversely affect our business.

 

If we fail to adopt new technologies or adapt our platform to changing user requirements, increasing traffic or emerging industry standards, our business may be materially and adversely affected.

 

The online travel industry is subject to rapid technological changes. To remain competitive, we must continue to enhance and improve the responsiveness, functionality and features of our mobile platform and website. The online travel industry is also characterized by rapid technological changes, changes in user requirements and preferences and the introduction of new travel products and services embodying new technologies that could render our existing technologies and systems obsolete. Our success will depend, in part, on our ability to identify, develop, acquire or license leading technologies useful in our business, and respond to technological advances and emerging industry standards and practices in a cost-effective and timely way. The development of websites and other proprietary technology entails significant technical and business risks. In addition, the widespread adoption of new internet, networking or telecommunications technologies or other technological changes could require substantial expenditures to modify or adapt our travel products, services or infrastructure. We may not be able to use new technologies effectively or adapt our mobile platform, website, proprietary technologies, transaction-processing systems and management systems to user requirements or emerging industry standards. If we are unable to adapt in a cost-effective and timely manner to changing market conditions or user requirements, whether for technical, legal, financial or other reasons, our business, financial condition and results of operations may be materially and adversely affected.

 

We have a proprietary software system that supports nearly all aspects of our service. Our business may be harmed if we are unable to upgrade our system and infrastructure fast enough to accommodate increasing traffic levels or to avoid obsolescence, or successfully integrate any newly-developed or purchased technology with our existing system. Capacity constraints could cause unanticipated system disruptions, slower response times, poor user experience, impaired quality and speed of reservations and confirmations, and delays in reporting accurate financial and operating information. These factors could cause us to lose users and customers. Additionally, we will continue to upgrade and improve our technology infrastructure to support our business growth. However, we cannot assure you that we will be successful in executing these system upgrades and improvement strategies. In particular, our system may experience interruptions during upgrades, and the new technologies or infrastructures may not be fully integrated with the existing systems on a timely basis or at all. If our existing or future technology infrastructure does not function properly, it could cause system disruptions and slow response times that affect data transmission, which in turn could materially and adversely affect our business, financial condition and results of operations.

 

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We may be unable to establish, maintain and deepen relationships with customers.

 

Our ability to attract users to use our mobile platform and website depends in large part on providing a comprehensive set of query results. To do so, we maintain relationships with customers to include their travel product data in our query results. The loss of existing relationships with customers, or an inability to continue to add new ones, may result in search results with incomplete pricing, availability and other information important to our users. This deficiency could reduce users’ confidence in the query results we provide, making us less popular among our users.

 

With respect to our air ticket information, we currently have supplier relationships with most major domestic airlines in China and certain international airlines operating flights from and to China. However, these airlines may enter into similar arrangements or other relationship with our competitors, which may offer better terms than we do. If we lose any of our airline suppliers, we would be unable to continue to display travel data from such airlines, which would reduce the breadth of our query results. The number of users using our services could decline, making us unattractive to our users and resulting in a loss of revenues and a decline in our operating results.

 

In order to provide high quality search service and comprehensive information about air tickets, we retrieve ticket availability information from China’s sole global distribution systems, or GDS, pursuant to certain contractual arrangements. The GDS may decide to limit the information that they provide to us or even stop working with us due to commercial or other reasons. In addition, our cost to obtain data from the GDS may significantly increase. The loss or deterioration of the relationship with such GDS may affect the comprehensiveness and accuracy of flight information available on our platform or increase our operating costs, which would negatively impact users’ experience or adversely affect our financial condition and results of operations.

 

Brand name hotels from major hotel chains comprise of a significant portion of the hotel choices offered on our platforms. A loss of any one of these hotel chains as a customer, or a loss of any one of these chains as a provider of travel information to OTAs, could have a negative impact on our business, financial condition or results of operations. As we entered into the hotel direct business by offering consumers hotel products that are sourced directly by us, we will need to maintain and strengthen relationships with over 200,000 independent hotels as our customers and also to attract additional independent hotels. If we fail to attract or maintain those independent hotels as our customers, our growth prospects may be adversely affected.

 

In addition, we will need to maintain and strengthen relationships with our OTAs that are our existing customers and establish new customer relationships with other OTAs and travel service providers to ensure that we have access to a steady supply of travel product information on favorable commercial terms. However, we may not be able to successfully maintain or strengthen the relationships with some of our existing OTA customers. We also cannot assure you that we will be able to identify appropriate OTAs and other travel service providers or enter into arrangements with them on favorable terms, if at all. Moreover, as part of our growth strategy, we plan to further expand our service offerings. If we fail to establish new customer relationships on favorable terms or our new service offerings fail to attract new customers due to any reason, the growth of our business may also be materially and adversely affected.

 

If the fragmented travel market in China becomes consolidated, our business model may lose value.

 

China’s size and population, imbalanced economic development and differences in consumer behavior across the country have created a highly complex, fragmented and diverse travel market. According to the China National Tourism Administration, there were 24,944, 26,054 and 26,650 travel agencies in China in 2012, 2013 and 2014, respectively. A majority of travel agencies tend to be unaffiliated and small, local office operations. Users must work with a large number of small, independent travel service providers either directly or through a network of OTAs, both of which can be difficult to manage. Such a fragmented travel market has caused difficulties for travelers to obtain comprehensive travel information while creating opportunities and value for our business model as a consolidator of travel information from those travel service providers. If, however, travel service providers start to form alliances, or merge or consolidate among themselves, there will be fewer but larger travel service providers, which would make comprehensive travel information more readily available to users. If that happens, our business model may lose its value, and our business prospects, financial condition and results of operations may be adversely affected.

 

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We are dependent on the leisure travel industry for a significant portion of our revenues.

 

Historically, revenues from the leisure travel industry accounted for a significant portion of our total revenues. We expect that it will continue to represent a significant portion of our total revenues in the near future. Leisure travel, including leisure airline tickets, hotel room reservations, vacation packages and tours, attraction tickets, among others, is dependent on personal discretionary spending levels. Demand for leisure travel services tends to decline, during general economic downturns and recessions. Although the Chinese leisure travel industry has experienced rapid growth in the past decade. any severe or prolonged slowdown in the Chinese economy could reduce expenditures for leisure travel, which in turn may adversely affect our financial condition and results of operation. Furthermore, our business may also be significantly affected by other factors that tend to reduce leisure travel, including increased prices in hotel, air-ticketing, fuel or other travel-related sectors, work stoppages or labor unrest at airlines, increased occurrence of travel-related accidents, outbreaks of contagious diseases, natural disasters and extreme unexpected bad weather. Reduction in our revenue from the leisure travel industry could materially and adversely affect our financial condition, operating results and business prospects.

 

We may be unable to maintain or increase our brand awareness and preference.

 

We have developed our user base primarily through word-of-mouth recommendations and have in the past incurred limited brand promotion expenses. We believe that the recognition and reputation of our “Qunar (去哪儿)” brand among our target users and travel service providers have contributed significantly to the growth and success of our business. User awareness, perceived quality and attributes of the “Qunar” brand are important aspects of our efforts to attract users to our mobile platform and website. Maintaining and enhancing our brand are critical to our business and competitiveness. Many factors, some of which are beyond our control, are important to maintaining and enhancing our brand. These factors include our ability to:

 

·                  provide a compelling user experience of online travel searches;

 

·                  maintain the popularity, attractiveness, diversity and quality of the services we offer;

 

·                  increase brand awareness through various means of marketing and brand promotion activities; and

 

·                  preserve our reputation and goodwill in the event of any negative media publicity toward our services, internet security, or other issues affecting us or other online travel businesses in China.

 

Since some of our competitors may have more resources than we do, and can spend more in advertising their brands and services, we may be forced to spend considerable money and other resources to preserve and increase our brand awareness. Should the competition for top-of-mind awareness and brand preference increase among online travel search companies, we may not be able to successfully maintain or enhance the strength of our brand. Even if we are successful in our branding efforts, such efforts may not be cost effective. If we are unable to maintain or enhance user and customer awareness of our brand in a cost effective manner, our business, results of operations and financial condition could be adversely affected.

 

We are subject to payment-related risks.

 

We enable our users to make and our customers to accept payments through our SaaS system by working with banks as well as various third-party online payment service providers. Because we rely on external parties to provide payment processing services, including processing payments made with credit cards and debit cards, it could disrupt our business if these companies become unwilling or unable to provide these services to us. We may be subject to human error, fraud and other illegal activities in connection with banks and third-party online payment services.

 

In addition, we allow users to keep small amounts of account balance with us and transfer money to third parties on our SaaS system. We are subject to risks related to user account abuse, human error, fraud and other illegal activities in connection with the user accounts. If our data security systems are breached or compromised, we may lose our ability to keep user account balances, accept credit and debit card payments from our users or process funds transfers, and we may be subject to claims for damages from our users and third parties, all of which could adversely and materially affect our reputation as well as our operating results.

 

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Failure to protect confidential information of our users and network against security breaches could damage our reputation and substantially harm our business and results of operations.

 

We acquire personal or confidential information from users. The secure transmission of confidential information (such as users’ itineraries, hotel and other reservation information, credit card numbers and expiration dates, personal information and billing addresses) is essential to maintaining user confidence. Security breaches or cyber-attacks to our system, particularly the SaaS system, whether coming from internal or external sources, could significantly harm our reputation and business and expose us to monetary loss or litigation. In recent years, the risks that we face from cyber-attacks have increased significantly. Some of these attacks may originate from well-organized, highly skilled organizations. Any such attack or system or network disruption could result in a loss of our intellectual property, the release of commercially sensitive information or user, customer or employee personal data or the disruption of services we provide to our users and customers.

 

Although we continuously strengthen our security measures, we cannot assure you that external attacks will not occur in the future or that our existing security measures will prevent security breaches or attacks. We may need to expend significant resources to protect against security breaches or to address problems caused by breaches. Any incident of security breach may affect the accessibility of our mobile platform and website, which could cause us to lose substantial user traffic and transaction volume. The risk of such security breaches is likely to increase as we grow and as the tools and techniques used in these types of attacks become more advanced. Meanwhile, we have limited control or influence over the security policies or measures adopted by third-party providers of online payment services through which our users make payment for transactions completed on our SaaS system. Although we do not believe that we will be held responsible for any illegal activities of third parties, any negative publicity about our platforms’ safety or privacy protection mechanism or policy could have a material and adverse effect on our public image and reputation. If we grant third parties greater access to our technology infrastructure in the future to provide more technology assistance to or other technical cooperation with travel service providers and others, it may be more challenging for us to ensure the security of our SaaS system. Any security breach of our system or compromise of the information security measures of our travel service providers and other third-party service providers could result in negative publicity, damage our reputation, expose us to risk of monetary loss or litigation and even subject us to regulatory penalties and sanctions, any of which could have a material and adverse effect on our reputation, business, financial condition and results of operations.

 

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

 

We principally rely on trade secrets to protect our technology and know-how. We have devoted substantial resources to the development of our technology and know-how. In order to protect our technology and know-how, we rely significantly on confidentiality agreements or provisions with our employees, licensees, independent contractors and other advisors. These agreements may not effectively prevent disclosure of confidential information and may not provide an adequate remedy in the event of unauthorized disclosure of confidential information. In addition, others may independently discover our trade secrets and proprietary information and, in such cases, we would not be able to assert any trade secret rights against such parties. Costly and time-consuming litigation could be necessary to enforce and determine the scope of our proprietary rights, and failure to obtain or maintain trade secret protection could adversely affect our competitive position.

 

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

 

We regard our intellectual property as critical to our success, and we rely on trademark, trade name, copyright, patent, trade secret and anti-unfair competition law, as well as confidentiality and/or license agreements, to protect our proprietary rights. The protection of intellectual property rights in China may not be as effective as that in the United States or other countries. The steps we have taken may be inadequate to prevent the misappropriation of our technology. Reverse engineering, unauthorized copying or other misappropriation of our technologies could enable third parties to benefit from our technologies without paying us. Moreover, unauthorized use of our technology could enable our competitors to offer services that are comparable to or better than ours, which could harm our business and competitive position. From time to time, we may have to enforce our intellectual property rights through litigation. Such litigation may result in substantial costs, diversion of resources and management attention. If we are not successful in protecting our intellectual property, it could have a material adverse effect on our business, results of operations and financial condition.

 

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We have registered domain names for websites that we use in our business, such as qunar.com. If we lose the ability to use the domain name of qunar.com, we would be forced to incur significant expenses to market our services under a new domain name, which could substantially harm our business. In addition, our competitors could attempt to capitalize on our brand recognition by using domain names similar to ours. We may be unable to prevent third parties from acquiring and using domain names that infringe on, are similar to, or otherwise decrease the value of, our brand or our trademarks. Protecting and enforcing our rights in our domain names and determining the rights of others may require litigation, which could result in substantial costs and diversion of management attention.

 

In 2009, Guangzhou Qu Na Information Technology Co., Ltd., or Guangzhou Qu Na, an unaffiliated third party, launched and operated “quna.com”, a “copycat” of our website “qunar.com”. From September to October 2009, Guangzhou Qu Na filed oppositions against all our trademark applications for our online travel-related service brands that had been preliminarily approved by the PRC Trademark Office. In April 2011, we filed a lawsuit against Guangzhou Qu Na over its unfair competition with the Guangzhou Intermediate People’s Court. The PRC Trademark Office ruled in our favor in each of the eight trademark oppositions that Guangzhou Qu Na filed against us in the period from October 2011 to February 2012. In June 2013, Guangzhou Intermediate People’s Court issued a judgment largely in our favor, ordering Guangzhou Qu Na to cease using “GRAPHIC,” “GRAPHIC,” “GRAPHIC,” and “quna.com” as its service marks, and cease using and transfer to us the domain names of “quna.com,” “123quna.com,” and “mquna.com.” Guangzhou Qu Na and we each filed an appeal against each other with the Guangdong Higher People’s Court on June 20, 2013 on this judgment. In April 2014, Guangdong Higher People’s Court issued a final judgment which partially overturned the original verdict by ruling that Guangzhou Qu Na may continue to hold and use the domain names of quna.com, 123quna.com and mquna.com” as long as it ceases using GRAPHIC,” “GRAPHIC,” “GRAPHIC,” and “quna.com” as its service marks. While we intend to vigorously pursue our legal rights in PRC courts, we may not be able to obtain or enforce favorable rulings in China in a satisfactory manner. “Copycat” mobile applications and websites may misappropriate, dilute, or damage our brand and the functionality of our mobile applications and website and misdirect user traffic from our mobile applications or website, which could adversely affect the growth of our user base. In addition, any measures that we may take to protect our right may require us to expend significant financial or other resources and may divert management attention. Any of these factors may have material adverse effect on our business.

 

Claims by third parties that we infringe on their intellectual property rights or that our platforms or travel service providers’ web outlets hosted by us contain errors or false or misleading information could lead to government administrative actions and result in significant costs and have a material adverse effect on our business, results of operations and financial condition.

 

We cannot be certain that our operations or certain aspects of our business do not or will not infringe upon patents, copyrights, know-how or other intellectual property rights held by third parties. We have been in the past, and may be from time to time in the future, subject to legal proceedings, claims or government administrative actions relating to the intellectual property rights of others, including alleged infringement by certain of our technology upon third parties’ patents. For example, our group buying channel may contain pictures that infringe upon the copyrights of third parties, and our platforms may contain other parties’ proprietary information such as hotel reviews. If we are found to have infringed on the intellectual property rights of others, we may be subject to liability for our infringement activities or may be prohibited from using such intellectual property, and we may incur licensing fees or be forced to develop alternatives of our own. In addition, we may incur significant expenses and may be forced to divert management’s time and other resources from our business and operations to defend against these third-party infringement claims, regardless of their merits. Successful infringement or licensing claims made against us may result in significant monetary liabilities and may materially disrupt our business and operations by restricting or prohibiting our use of the intellectual property in question. Moreover, regardless of whether we successfully defend against such claims, we could suffer negative publicity and our reputation could be severely damaged. Any of these events could have a material and adverse effect on our business, results of operations or financial condition.

 

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Meanwhile, our platforms and travel service providers’ web outlets hosted by us contain information about hotels, flights, popular vacation destinations and other travel-related topics. It is possible that if any contents accessible on our platforms infringe upon the intellectual property rights of any third parties or contain errors or false or misleading information, third parties or our users could take actions against us for such contents or their use of such contents. Any claims, with or without merit, could be time-consuming to defend, result in litigation and divert management’s attention and resources.

 

In addition, user-generated content on our platforms may contain or provide links to information that infringes on the copyrights or other intellectual property rights of third parties or violates applicable rules or regulations in relation to censorship, or we may use the user-generated content in a way that infringes upon the rights of the users or third parties. Our copyright policies and user agreements prohibit users from illegally uploading copyright-protected content to our platforms. However, the above measures may not be sufficient to eliminate the risk of infringing or illegal material being posted or linked to on our plaforms. Claims by third parties or actions taken by the government over infringing or illegal materials hosted or linked to on our platforms could result in significant costs and have a material adverse effect on our business, results of operations or financial condition.

 

We may be the subject of unfair competition, harassment, or other detrimental conduct by third parties including complaints to regulatory agencies, negative blog postings and the public dissemination of malicious assessments of our business that could harm our reputation and cause us to lose market share, users and revenues.

 

We have been, and in the future may be, the target of unfair competition, harassment or other detrimental conduct by third parties. For example, in early 2013, we were subject to negative publicity claiming that certain brand-name hotel chains discontinued business relationships with us due to unauthorized discounts offered by our travel service providers, and such negative publicity could for a certain period of time adversely affect our users’ perception of the availability of certain brand-name hotel chains in our search results. Allegations, directly or indirectly against us, may be posted in internet chat-rooms or on blogs or any websites by anyone, whether or not related to us, on an anonymous basis. In addition, such conduct includes complaints, anonymous or otherwise, to regulatory agencies regarding our alleged unfair competition activities in the online travel service sector. We have been, and in the future may continue to be, subject to government or regulatory investigation as a result of such third-party conduct and may be required to expend significant time and incur substantial costs to address such third-party conduct, and we may not be able to conclusively refute each of the allegations within a reasonable period of time, or at all. Our reputation may be negatively affected as a result of the public dissemination of anonymous allegations or malicious statements about our business, which in turn may cause us to lose market share, users, advertisers and revenues.

 

Our employees may engage in misconduct or other improper activities, including non-compliance with regulatory standards and requirements.

 

We are exposed to the risk of fraud or other misconduct by our employees. Such misconduct includes intentional failures to comply with laws, regulations and industry standards, which could result in regulatory sanctions and cause harm to our reputation. We have adopted a code of conduct applicable to all of our employees, but it is not always possible to identify and deter employee misconduct, and the precautions we take to detect and prevent this activity may not be effective in controlling unknown or unmanaged risks or losses or in protecting us from governmental investigations or other actions or lawsuits stemming from a failure to comply with these laws or regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, those actions could have a significant impact on our business, including the imposition of significant fines or other sanctions. Furthermore, even if no actions are instituted against us for the misconduct of our employees, we may be exposed to negative publicity that may have a material adverse effect as to our business, brand and reputation.

 

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We may become the target of antitrust legal claims.

 

As the leading mobile and online commerce platform for the travel industry in China, we may receive close scrutiny from government agencies under PRC antitrust laws, which also provide private rights of action for competitors or users to bring antitrust claims against us. If we do not prevail in any antitrust lawsuits or administrative proceedings initiated against us by private parties or government agencies, we may face confiscation of unlawful gains, heavy fines and various constraints on our business. These constraints may include forced termination of any agreements or arrangements that are determined as in violation of antitrust laws, compulsory disposal of relevant business and limitation on certain operation practices, which may limit our ability to continue to innovate, diminish the appeal of our services and increase our business operation costs. Such constraints may enable our competitors to develop websites, products and services that mimic the functionality of ours, which could result in decreased popularity of our platforms among users. Consequently, our business, financial condition and results of operations may be materially and adversely affected.

 

Baidu will be able to control the outcome of a large number of shareholder actions in our company.

 

As of March 31, 2015, Baidu holds 51.4% of our total outstanding ordinary shares, representing approximately 68.7% of our voting power due to our dual-class ordinary share structure. In addition, we have issued to Baidu warrants to acquire 45,800,000 Class B ordinary shares. As long as Baidu’s non-competition undertakings discussed below are not terminated, Baidu has the option to settle all or part of the share warrants by share at the exercise price of zero, or by cash for a total price calculated based on the number of underlying Class B ordinary shares issuable under the share warrants and the public offering price of our Class B ordinary shares in our initial public offering. See “—We are subject to risks associated with the warrants to be issued to Baidu in connection with the Zhixin Cooperation Agreement.” As long as Baidu holds a majority of our voting power, it has the ability to control shareholder actions through ordinary resolutions under Cayman Islands law, our amended and restated memorandum and articles of association and NASDAQ requirements. Baidu will have sufficient voting power to determine the outcome of all matters requiring shareholder approval even if it should, at some point in the future, hold considerably less than a majority of the combined total of our outstanding ordinary shares.

 

Baidu’s voting control may cause transactions to occur that might not be beneficial to you as a holder of ADSs, and may prevent transactions that would be beneficial to you. For example, Baidu’s voting control may prevent a transaction involving a change of control of us, including transactions in which you as a holder of our ADSs might otherwise receive a premium for your securities over the then-current market price. In addition, Baidu is not prohibited from selling a controlling interest in us to a third party and may do so without your approval and without providing for a purchase of your ADSs. If Baidu is acquired or otherwise undergoes a change of control, its acquirer or successor will be entitled to exercise the voting control and contractual rights of Baidu, and may do so in a manner that could vary significantly from that of Baidu.

 

If our customers choose to reduce or eliminate the fees they pay us, or chose to terminate existing relationships with us, our results of operations could be materially and adversely affected.

 

We derive revenues primarily from fees paid by our customers, most of whom are our hotel suppliers under the hotel direct programs, and Flight TSPs, including airlines, and to a lesser extent, from display advertisements. We rely on hotel suppliers to provide us with rooms at discounted prices for our hotel direct business. However, we cannot assure you that the hotels participating in our hotel direct business will renew our contracts in the future on favorable terms or terms similar to those we currently have agreed. The hotels participating in our hotel direct business may reduce the commission rates on bookings made through us. In addition, we do not have long-term contracts with most of our Flight TSPs, some of which are major airlines that allow us to book and sell tickets on their behalf and collect commissions on tickets booked and sold through us. In the past, airlines have from time to time reduced their base commission rates on tickets booked and sold through us, which negatively affected our revenues from flight tickets in the relevant periods. We cannot assure you that any of these airlines will continue to have supplier relationships with us or pay us commissions at the same or similar rates as what they paid us in the past. The loss of customer relationships or adverse changes in major business terms with our customers would materially impair our operating results and financial condition.

 

In addition, our customers and advertisers may not continue to do business with us if their investment does not generate expected businesses and attract consumers, or if we do not deliver their travel product information in our search results in an appropriate and effective manner. Third parties may develop and use certain technologies to block the display of advertisements on our mobile applications or website, which may in turn cause us to lose advertisers. Failure to retain our existing customers and advertisers or to attract new customers and advertisers could seriously harm our business, operating results and growth prospects.

 

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We may have conflicts of interest with Baidu and, because of Baidu’s controlling ownership interest in our company, may not be able to resolve such conflicts on terms favorable for us.

 

Conflicts of interest may arise between Baidu and us in a number of areas relating to our past and ongoing relationships. Potential conflicts of interest that we have identified include the following:

 

Business cooperation arrangements. In 2013 and 2014, approximately 51% and 45%, respectively, of our web user traffic came from various channels through Baidu, including Baidu’s web page search service, directory navigation site and map service. During the same periods, 16% and 35%, respectively, of our web user traffic from Baidu was purchased by us, and 84% and 65%, respectively, was redirected to us free of charge, including both user traffic from organic search results and user traffic redirected to us pursuant to our business cooperation agreement and other related agreements with Baidu prior to our initial public offering. In addition, we entered into the Zhixin Cooperation Agreement with Baidu in October 2013, pursuant to which we are granted an exclusive right to operate Baidu’s new travel platform and are guaranteed a certain minimum number of page views generated from the users of such new travel platform for an initial term starting from November 21, 2013, which was the 15th day after the consummation of our initial public offering, until the end of 2016, subject to an automatic renewal for seven years unless otherwise agreed by both parties. Although we have been less reliant on Baidu and Zhixin Platform for web traffic starting from the fourth quarter of 2014, so long as Baidu continues to have 50% or more of our voting power, we may not be able to bring a legal claim against Baidu in the event of contractual breach, notwithstanding our contractual rights under the agreements described above and other inter-company agreements entered into from time to time.

 

In addition, the implementation of certain provisions of the Zhixin Cooperation Agreement, such as the method for calculating traffic statistics and the tracking system adopted to calculate the benchmark revenue, are subject to further discussions and agreement between us and Baidu, which may not be resolved on favorable terms to us. Furthermore, the Zhixin Cooperation Agreement provides that any dispute should be resolved through arbitration in Hong Kong, provided that we and Baidu have agreed to submit any claim of breach of the agreement to a review committee, which shall be composed of (i) two members from Baidu’s senior management who are not in charge of the products concerned by the Zhixin Cooperation Agreement and (ii) one independent director from us. The review committee may decide that a breach of the agreement has occurred by a simple majority vote and upon such a decision, we shall remedy the breach within the timeframe provided in the Zhixin Cooperation Agreement. If we are determined to breach the agreement and fail to remedy the breach within one month of Baidu’s written notice, Baidu is entitled to exercise any issued warrants that are exercisable or would become exercisable in the six months following the termination had the performance of the agreement continued as originally agreed. If we are determined to breach the agreement and such breach materially and adversely affects the interests of Baidu, Baidu is entitled to receive a cash amount equal to three times the larger of (A) the value amount of the warrants already exercisable or exercised plus the revenue Baidu is entitled to receive under this agreement; and (B) the value amount of the remaining issued warrants held by Baidu.

 

Sale of shares in our company. Baidu may decide to sell all or a portion of our shares that it holds to a third party, including to one of our competitors, thereby giving that third party substantial influence over our business and our affairs. Such a sale could be contrary to the interests of certain of our shareholders, including our employees or our public shareholders.

 

Allocation of business opportunities. Business opportunities may arise that both we and Baidu find attractive, and which would complement or expand our respective businesses. Baidu may decide to take the opportunities itself, which would prevent us from taking advantage of the opportunity ourselves.

 

Developing business relationships with Baidu’s competitors. So long as Baidu remains as our controlling shareholder, we may be limited in our ability to do business with its competitors, such as other internet search service providers or portals in China. This may limit the effectiveness of our online advertisement and not be in the best interests of our company and our other shareholders.

 

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Strategic decisions made by Baidu. Although our company is a separate, stand-alone entity, we expect to operate, for as long as Baidu is our controlling shareholder, as a part of the Baidu group. Baidu may from time to time make strategic decisions that it believes are in the best interests of its business as a whole, including our company. These decisions may be different from the decisions that we would have made on our own. Baidu’s decisions with respect to us or our business may be resolved in ways that favor Baidu and therefore Baidu’s own shareholders, which may not coincide with the interests of our other shareholders.

 

Further, an individual appointed by Baidu, or the Baidu nominee, holds 60% of the equity interest in our Principal VIE. When any conflict of interests between Baidu and us arises, we cannot assure you that Baidu’s nominee will act completely in our interests or that conflicts of interest will be resolved in our favor. We may not be able to resolve any potential conflicts, and even if we do so, the resolution may be less favorable to us than if we were dealing with an unaffiliated shareholder. Even if both parties seek to transact business on terms intended to approximate those that could have been achieved among unaffiliated parties, this may not succeed in practice.

 

Our business is sensitive to general economic conditions. A severe or prolonged downturn in the global or Chinese economy could materially and adversely affect our business and our financial condition.

 

The global financial markets experienced significant disruptions in 2008 and the United States, Europe and other economies went into recession. The recovery from the lows of 2008 and 2009 was uneven and it is facing new challenges, including the escalation of the European sovereign debt crisis since 2011. It is unclear whether the European sovereign debt crisis will be contained and what effects it may have. There is considerable uncertainty over the long-term effects of the expansionary monetary and fiscal policies that have been adopted by the central banks and financial authorities of some of the world’s leading economies, including China’s. In addition, there have been concerns about the economic effect of the earthquake, tsunami and nuclear crisis in Japan. Economic conditions in China are sensitive to global economic conditions. Since we derive, and expect to continue to derive, our revenues almost entirely from China, and both the leisure travel market and the advertising industry tend to be cyclical and are particularly sensitive to overall economic conditions, our business and prospects may be affected by economic conditions in China. We cannot assure you that reductions in leisure travel spending will not occur, or will not decrease from current levels. A decline in the economic prospects of travelers or advertisers or the economy in general could reduce leisure travels and the needs for our services, and may also alter current or prospective advertisers’ spending priorities. Therefore, any prolonged slowdown in the global or China’s economy may lead to a reduction in both leisure travel activities, which could materially and adversely affect our financial condition and results of operations. In addition, the weak economy could erode investors’ confidence, which constitutes the basis of the credit markets. Renewed financial turmoil affecting the financial markets, banking systems or currency exchange rates may significantly restrict our ability to obtain financing in the capital markets or from financial institutions on commercially reasonable terms, or at all, which could also materially and adversely affect our business, results of operations and prospects.

 

We have no insurance coverage, which could expose us to significant costs and business disruption.

 

As the insurance industry in China is still in an early stage of development, insurance providers in China currently offer limited business-related insurance products. We do not maintain business interruption insurance, key-man life insurance, or any insurance policies for our properties. Any business disruption, litigation or natural disaster may result in our incurring substantial costs and the diversion of our resources. Due to our lack of insurance coverage, if we encounter any accident or interruption to our business, key personnel or major properties for any reason, our business, financial condition and results of operations could be materially and adversely affected.

 

We face risks related to natural disasters, health epidemics and other outbreaks, which could significantly disrupt our operations.

 

Our business could be materially and adversely affected by natural disasters, including hurricanes, tsunamis, earthquakes or volcanic eruptions, or the outbreak of avian influenza (including H5N1, H7N9 and H9N2 subtypes), severe acute respiratory syndrome, or SARS, or another epidemics. In the recent years, Ebola virus disease broke out in West Africa, with a number of people having died of the disease in countries such as Guinea, Sierra Leone and Liberia. There are also cases of patients diagnosed with Ebola in the United States and Europe. Any of such occurrences could cause severe disruption to normal leisure travel patterns and levels and hence reduce users’ travel interest and their needs for our services. Our operations could also be severely disrupted if our travel service providers or advertisers were affected by such natural disasters or health epidemics. The leisure travel industry is also sensitive to other events beyond our control, such as worker shortages, work stoppages or labor unrest at any of the major airlines, political instability, regional hostilities, increases in fuel prices, imposition of taxes or surcharges by regulatory authorities, travel-related accidents and terrorist attacks, any of which could have an impact on our business, financial condition and results of operations.

 

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

 

Since the third quarter of 2009, we have made significant use of internet search engines, principally through participation in search engine optimization and the purchase of travel-related keywords, to generate traffic to our platforms. Approximately 45% of our web user traffic in 2014 resulted from searches initially entered on general search engine websites, primarily the search service of Baidu. Search engines, such as Baidu and Google, frequently update and change the logic that determines the placement and ordering of results of a user’s search, which may reduce the effectiveness of the keywords we have purchased. If a major search engine, such as Baidu and Google, changes its algorithms in a manner that negatively affects the search engine ranking of our platforms, or changes its pricing, operating or competitive dynamics to our disadvantage, our business, results of operations and financial condition could be adversely affected.

 

We also enter into commercial traffic-generating arrangements with various service providers such as Baidu, Google and Tencent. Approximately 48% of our web user traffic in 2014 was from paid traffic-generating services. Any loss or impairment of one or more of our traffic-generating services or arrangements, especially the ones we have with Baidu, could significantly reduce our user traffic and have a material and adverse impact on our operating results.

 

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

 

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

 

We may need additional capital, and financing may not be available on terms acceptable to us, or at all, or we may lose a significant existing financing source.

 

We believe that our current cash and cash equivalents, and anticipated cash flow from operations, will be sufficient to meet our anticipated cash needs for the foreseeable future. We may, however, require additional cash resources due to changed business conditions or other future developments, including any marketing initiatives or investments we may decide to pursue. If these resources are insufficient to satisfy our cash requirements, we may seek to obtain a credit facility or sell additional equity or debt securities. The sale of additional equity securities could result in dilution of our existing shareholders. The incurrence of indebtedness would result in increased debt service obligations and could result in operating and financing covenants that would restrict our operations. It is uncertain whether financing will be available in amounts or on terms acceptable to us, if at all.

 

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We entered into a revolving credit facility agreement with Baidu with a principal amount of US$300 million on February 27, 2014. The agreement has a term of three years with an interest rate of 90% of the benchmark lending rate published by the Peoples Bank of China. We drew down an amount of RMB507 million from this facility on March 12, 2015.  If this credit facility is terminated prior to its expiration date, we would lose a significant financing source, we may not be able to replace it promptly, or on similar terms, or at all, and our business and result of operations may be adversely affected.

 

The successful operation of our business depends upon the performance and reliability of the Internet infrastructure and telecommunications networks in China.

 

Our business depends on the performance and reliability of the Internet infrastructure and telecommunications networks in China. Almost all access to the Internet is maintained through state-owned telecommunications operators under the administrative control and regulatory supervision of the Ministry of Industry and Information Technology of the PRC, or the MIIT. In addition, the national networks in China are connected to the Internet through international gateways controlled by the PRC government. These international gateways are the only channels through which a domestic user can connect to the Internet. We rely on this infrastructure, primarily China Telecom and China Unicom, to provide data communications capacity. Although the PRC government has pledged to improve the Internet infrastructure in China as part of its stimulus package introduced in the first quarter of 2009, a more sophisticated internet infrastructure may not develop in China. We, or our users, may not have access to alternative networks in the event of disruptions, failures or other problems with China’s internet infrastructure. With the expansion of our business, we may be required to upgrade our technology and infrastructure to keep up with the increasing traffic on our platforms. However, we have no control over the costs of the services provided by telecommunications service providers. If the prices we pay for telecommunications and internet services rise significantly, our results of operations may be materially and adversely affected. If internet access fees or other charges to internet users increase, our user traffic may decline and our business may be harmed. Moreover, if we are not able to renew service agreements with the telecommunications carriers when they expire and are not able to enter into agreements with alternative carriers on commercially reasonable terms or at all, the quality and stability of our services may be adversely affected.

 

We are subject to risks associated with the warrants to be issued to Baidu in connection with the Zhixin Cooperation Agreement.

 

Pursuant to the Zhixin Cooperation Agreement that we entered into with Baidu on October 1, 2013, we issued to Baidu certain share warrants on November 21, 2013. The issuance and exercise of such warrants to be issued to Baidu may have a material impact on our capital structure, financial condition and results of operations. For example:

 

·                  the warrants issued to Baidu are exercisable for our Class B ordinary shares at an exercise price of zero, which would result in immediate and substantial dilution of the net tangible book value per ordinary share on our shareholders at that time if Baidu chooses to settle the warrants for shares. Assuming all the warrants are exercisable and Baidu chooses to settle all of them for Class B ordinary shares, Baidu would acquire an additional 45,800,000 Class B ordinary shares, subject to adjustment as provided in the Zhixin Cooperation Agreement, to further increase its shareholding in us.

 

·                  the warrants issued to Baidu are also exercisable in cash. As long as Baidu’s non-competition undertaking as provided in the Zhixin Cooperation Agreement is in effect and assuming all the warrants are exercisable without any downward adjustment and Baidu chooses to settle all of the then-exercisable warrants in cash after January 15, 2015, 2016 or 2017, we would be required to pay, in aggregate, approximately US$57 million, US$137 million or US$229 million, respectively, to Baidu within three months upon Baidu’s exercise of its warrants in cash, which could materially and adversely affect our liquidity, financial position and cash flows.

 

For the period from October 1, 2013 to December 31, 2013, the Cooperation Platform was in the testing phase and therefore no meaningful traffic was generated. The Cooperation Platform was officially launched on January 1, 2014 and the services pursuant to the Zhixin Cooperation Agreement commenced on the same day. For the year ended December 31, 2014, we incurred marketing expenses of RMB700 million related to the Baidu Zhixin Cooperation. See “Item 7. Major Shareholders and Related Party TransactionsB. Related Party TransactionsTransactions with Certain Directors, Shareholders and Affiliates and Key Management Personnel.”  As this amount is linked to the warrants issued to Baidu, if our share price continues to increase, the amount could continue to increase too and could materially and adversely affect our liquidity, financial condition and net equity.

 

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Risks Related to Our Corporate Structure

 

Substantial uncertainties exist with respect to the enactment timetable, final content, interpretation and implementation of draft PRC Foreign Investment Law published for public comments and how it may impact the viability of our current corporate structure, corporate governance and business operations.

 

The Ministry of Commerce published a discussion draft of the proposed Foreign Investment Law in January 2015, aiming to, upon its enactment, replace the trio of existing laws regulating foreign investment in China, namely, the Sino-foreign Equity Joint Venture Enterprise Law, the Sino-foreign Cooperative Joint Venture Enterprise Law and the Wholly Foreign-invested Enterprise Law, together with their implementation rules and ancillary regulations.  The draft Foreign Investment Law embodies an expected PRC regulatory trend to rationalize its foreign investment regulatory regime in line with prevailing international practice and the legislative efforts to unify the corporate legal requirements for both foreign and domestic investments. The Ministry of Commerce is currently soliciting comments on this draft and substantial uncertainties exist with respect to its enactment timetable, final content, interpretation and implementation. The draft Foreign Investment Law, if enacted as proposed, may materially impact the viability of our current corporate structure, corporate governance and business operations in many aspects.

 

Among other things, the draft Foreign Investment Law expands the definition of foreign investment and introduces the principle of “actual control” in determining whether a company is considered a foreign-invested enterprise, or an FIE. The draft Foreign Investment Law specifically provides that entities established in China but “controlled” by foreign investors will be treated as FIEs, whereas an entity set up in a foreign jurisdiction would nonetheless be, upon market entry clearance by the Ministry of Commerce, treated as a PRC domestic investor provided that the entity is “controlled” by PRC entities and/or citizens.  In this connection, “control” is broadly defined in the draft law to cover the following summarized categories: (i) holding 50% or more of the voting rights of the subject entity; (ii) holding less than 50% of the voting rights of the subject entity but having the power to secure at least 50% of the seats on the board or other equivalent decision-making bodies, or having the voting power to exert material influence on the board, the shareholders’ meeting or other equivalent decision-making bodies; or (iii) having the power to exert decisive influence, via contractual or trust arrangements, over the subject entity’s operations, financial matters or other key aspects of business operations. Once an entity is determined to be an FIE, it will be subject to the foreign investment restrictions or prohibitions set forth in a “negative list,” separately issued by the State Council, if the FIE is engaged in the industry listed in the negative list. Unless the underlying business of the FIE falls within the negative list, which calls for market entry clearance by the Ministry of Commerce, prior approval from the government authorities as mandated by the existing foreign investment legal regime would no longer be required for establishment of the FIE.

 

The VIE structure has been adopted by many PRC-based companies, including us, to obtain necessary licenses and permits in the industries that are currently subject to foreign investment restrictions in China. See “Item 7. Major Shareholders and Related Party Transactions—B. Related Party Transactions— Contractual Arrangements With Our Consolidated Variable Interest Entities and Their Shareholders” and “Item 3. Key Information—D. Risk Factors—Risks Related to Our Corporate Structure.” Under the draft Foreign Investment Law, VIEs that are controlled via contractual arrangement would also be deemed as FIEs if they are ultimately “controlled” by foreign investors. Therefore, for any companies with a VIE structure in an industry category that is on the “negative list,” the VIE structure may be deemed legitimate only if the ultimate controlling person(s) is/are of PRC nationality (either PRC companies or PRC citizens). Conversely, if the actual controlling person(s) is/are of foreign nationalities, the VIEs will be treated as FIEs and any operation in the industry category on the “negative list” without market entry clearance may be considered as illegal.

 

Baidu is our controlling shareholder. Whether we will be considered as ultimately controlled by Chinese parties relies on whether Baidu will be considered as ultimately controlled by Chinese parties. However, the draft Foreign Investment Law has not taken a position on what actions shall be taken with respect to the existing companies with a VIE structure, whether or not these companies are controlled by Chinese parties, while it is soliciting comments from the public on this point. The provision of internet content services (except for e-commerce), is subject to the foreign investment restrictions or prohibitions set forth in the “negative list” issued. If the enacted version of the Foreign Investment Law mandate further actions, such as MOC market entry clearance, to be completed by companies with existing VIE structure like us, we face uncertainties as to whether such clearance can be timely obtained, or at all.

 

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The draft Foreign Investment Law, if enacted as proposed, may also materially impact our corporate governance practice and increase our compliance costs. For instance, the draft Foreign Investment Law imposes stringent ad hoc and periodic information reporting requirements on foreign investors and the applicable FIEs. Aside from the investment implementation report and investment amendment report that are required at each investment and alteration of investment specifics, an annual report is mandatory and large foreign investors meeting certain criteria are required to report on a quarterly basis. Any company found to be non-compliant with these information reporting obligations may potentially be subject to fines and/or administrative or criminal liabilities, and the persons directly responsible may be subject to criminal liabilities.

 

If the PRC government finds that the agreements that establish the structure for operating our businesses in China do not comply with PRC governmental restrictions on foreign investment in internet and other related businesses, or if these regulations or the interpretation of existing regulations change in the future, we could be subject to severe penalties or be forced to relinquish our interests in those operations.

 

Current PRC laws and regulations place certain restrictions on foreign ownership of companies that engage in internet and other related businesses, including the provision of internet content and online advertising services. Specifically, foreign ownership in an internet content provider or other value-added telecommunications service provider may not exceed 50%. We are a Cayman Islands corporation and a foreign person under Chinese laws. Due to the foreign ownership restrictions on these businesses, we conduct part of our business through contractual arrangements with our VIEs in which we do not own any equity interests. Our Principal VIE and its subsidiaries hold the licenses, approvals and key assets such as our mobile platform and website that are essential for our business operations.

 

In the opinion of our PRC counsel, our current ownership structures, the ownership structure of our wholly-owned subsidiary and our VIEs, the contractual arrangements among us, Beijing Qunar Software Technology Company Limited, i.e., our WFOE, our VIEs and their shareholders are in compliance with all existing Chinese laws, rules and regulations. There are, however, substantial uncertainties regarding the interpretation and application of current or future Chinese laws and regulations. Accordingly, we cannot assure you that Chinese government authorities will not ultimately take a view contrary to the opinion of our Chinese legal counsel.

 

If we and our VIEs and their subsidiaries are found to be in violation of any existing or future Chinese laws or regulations, the relevant governmental authorities would have broad discretion in dealing with such violation, including, without limitation, levying fines, restricting our right to collect revenues, confiscating our income or the income of our VIEs and their subsidiaries, revoking our business licenses or the business licenses of our VIEs and their subsidiaries, requiring us and our affiliated Chinese entities to restructure our ownership structure or operations, and requiring us or our VIEs and their subsidiaries to discontinue any portion or all of our internet content provision or advertising businesses. Any of these actions could cause significant disruption to our business operations and may materially and adversely affect our business, financial condition and results of operations.

 

We rely on contractual arrangements with our VIEs and their shareholders for our China operations, which may not be as effective in providing operational control as direct ownership.

 

Since PRC law limits foreign equity ownership in internet and other related business in China, we operate our internet and other related businesses through our Principal VIE and its subsidiaries. We have no equity ownership interest in our Principal VIE or its subsidiaries and rely on contractual arrangements with our Principal VIE to control and operate such businesses. Such contractual arrangements include (i) a Restated Exclusive Technical Consulting and Services Agreement which will continue to be in effect until terminated by the WFOE, (ii) a Restated Loan Agreement which shall continue indefinitely until such time as (a) the Baidu nominee and Mr. Chenchao (CC) Zhuang receive a repayment notice from the WFOE and the Baidu nominee and Mr. Chenchao (CC) Zhuang fully repay the loans, or (b) an event of default (as defined therein) occurs unless the WFOE sends a notice indicating otherwise within 15 calendar days after it is aware of such event, (iii) a Restated Equity Option Agreement which will remain effective with respect to each of our Principal VIE’s shareholders until all of his or her equity interest has been transferred or we terminate the agreement unilaterally with 30 days’ prior written notice, (iv) an Equity Interest Pledge Agreement which became effective upon registration and will expire when all obligations under the aforementioned loan agreement, equity option agreement and exclusive technical consulting and services agreement have been satisfied, or the pledgee completes a transfer of equity interest pursuant to the aforementioned equity option agreement so that it no longer holds any equity interest in our Principal VIE, and (v) Powers of Attorney which will remain in full force and effect until the Baidu nominee or Mr. Chenchao (CC) Zhuang, as the case may be, no longer holds any equity interest in our Principal VIE. Most of the contractual arrangements are effective until we or the WFOE, in our sole discretion, terminate such contractual arrangement or exercises the rights granted thereunder. See “Item 4. Information on the CompanyC. Organizational Structure” for more details about such contractual arrangements.

 

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We also hold the shares of certain of our investee companies through other VIEs. We maintain control and operate the business of such VIEs through similar contractual arrangements. These contractual arrangements may not be as effective in providing control over our VIEs and their subsidiaries as direct ownership. For example, our Principal VIE may fail to take actions required for our operations or fail to maintain our mobile platform or website despite its contractual obligation to do so. In addition, we cannot assure you our VIEs’ shareholders would always act in our best interests.

 

Any failure by our VIEs or their respective shareholders to perform their obligations under our contractual arrangements with them may have a material adverse effect on our business and financial condition.

 

If our VIEs or their shareholders fail to perform their respective obligations under the contractual arrangements of which they are a party, we may incur substantial costs and expend substantial resources to enforce our rights under the contracts. We may have to rely on legal remedies under PRC law, including seeking specific performance or injunctive relief and claiming damages, which may not be effective. For example, if the shareholders of our VIEs were to refuse to transfer their equity interest in such VIEs to us or our designee when we exercise the equity option pursuant to these contractual arrangements, or if they were otherwise to act in bad faith toward us, then we might have to take legal action to compel them to perform their respective contractual obligations.

 

All of these contractual arrangements are governed by PRC law and provide for the resolution of disputes through arbitration in the PRC. Accordingly, these contracts would be interpreted in accordance with PRC law and any disputes would be resolved in accordance with PRC legal procedures. However, the legal system in the PRC, particularly as it relates to arbitration proceedings, is not as developed as in other jurisdictions, such as the United States. See “—Uncertainties with respect to the PRC legal system could adversely affect us.” Meanwhile, there are very few precedents and little formal guidance as to how contractual arrangements in the context of a VIE should be interpreted or enforced under PRC law. There remain significant uncertainties regarding the ultimate outcome of such arbitration should legal action become necessary. These uncertainties under the PRC legal system could limit our ability to enforce these contractual arrangements. Additionally, under PRC law, rulings by arbitrators are final, parties cannot appeal the arbitration results in courts and the prevailing parties may only enforce the arbitration awards in PRC courts through arbitration award recognition proceedings, which could cause additional expenses and delays. In the event we are unable to enforce these contractual arrangements or we experience significant delays or other obstacles in the process of enforcing these contractual arrangements, we may not be able to exert effective control over our affiliated entities, our ability to conduct our business may be negatively affected and our business and operations could be severely disrupted, which could materially and adversely affect our results of operations and damage our reputation.

 

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Shareholders of our VIEs may have potential conflicts of interest with us, which may affect the performance and renewal of our contractual arrangements with our VIEs and materially and adversely affect our business and financial condition.

 

Mr. Chenchao (CC) Zhuang and the Baidu nominee are the shareholders of our Principal VIE. Mr. Zhuang is our chief executive officer and holds 40% of our Principal VIE’s voting power. Conflicts of interest between his duties to our company and our Principal VIE may arise. As Mr. Zhuang is a director and executive officer of our company, he has a duty of loyalty and care to us under Cayman Islands law. We cannot assure you, however, that when conflicts of interest arise between us and our Principal VIE, Mr. Zhuang will act completely in our interests or that the conflicts of interest will be resolved in our favor. Mr. Zhuang could violate his employment agreement with us or his legal duties by diverting business opportunities from us to others. If we cannot resolve the conflicts of interest between us and Mr. Zhuang, we would have to resort to legal proceedings, which could result in disruption of our business. The Baidu nominee holds 60% of our Principal VIE’s equity interest. The Baidu nominee does not have any employment contract with us, nor does he owe any legal duty to us other than the contractual obligations in connection with our Principal VIE.

 

In addition, nominees of our VIEs, including those of our Principal VIE, may breach or cause our VIEs to breach or refuse to renew the existing contractual arrangements that allow us to effectively control our affiliated PRC entities and receive economic benefits from them. There is currently no specific and clear guidance under PRC laws that address any conflict between PRC laws and Cayman Islands laws in respect of any conflict relating to corporate governance.

 

We may lose the ability to use and enjoy assets held by our VIEs or their subsidiaries if our VIEs or their subsidiaries declare bankruptcy or become subject to a dissolution or liquidation proceeding.

 

Certain of our VIEs and their subsidiaries hold assets that are important to our business operations. Our contractual arrangements with our VIEs contain terms that specifically obligate the shareholders of our VIEs to ensure the valid existence of the VIEs and that the VIEs may not be voluntarily liquidated. However, in the event the shareholders breach this obligation and voluntarily liquidate the VIEs or cause the VIEs to liquidate any of their subsidiaries, or the VIEs or any of its subsidiaries declares bankruptcy, and all or part of their assets become subject to liens or rights of third-party creditors, we may be unable to continue some or all of our business operations, which could materially and adversely affect our business, financial condition and results of operations. Furthermore, if the VIEs or any of their subsidiaries undergoes a voluntary or involuntary liquidation proceeding, its shareholders or unrelated third-party creditors may claim rights to some or all of these assets, thereby hindering our ability to operate our business, which could materially and adversely affect our business, financial condition and results of operations.

 

Contractual arrangements we have entered into with our affiliated PRC entity may be subject to scrutiny by the PRC tax authorities. A finding that we owe additional taxes could substantially reduce our consolidated net income and the value of your investment.

 

Pursuant to applicable PRC laws and regulations, arrangements and transactions among related parties may be subject to audit or challenge by the PRC tax authorities. We would be subject to adverse tax consequences if the PRC tax authorities were to determine that the contractual arrangements between our WFOE and our VIEs were not on an arm’s length basis and therefore constitute a favorable transfer pricing. As a result, the PRC tax authorities could require that our VIEs adjust its taxable income upward for PRC tax purposes. Such a pricing adjustment could adversely affect us by: (i) increasing our VIEs’ tax expenses without reducing the WFOE’s tax expenses, which could subject our VIEs to late payment fees and other penalties for under-payment of taxes; and/or (ii) resulting in our WFOE’s loss of its preferential tax treatment. In addition, the PRC tax authorities may impose late payment fees and other penalties on our affiliated PRC entities for underpaid taxes. Our results of operations may be adversely affected if our affiliated PRC entities’ tax liabilities increase or if they are found to be subject to late payment fees or other penalties.

 

Risks Related to Doing Business in the PRC

 

Adverse changes in economic and political policies of the PRC government could have a material and adverse effect on overall economic growth in China, which could materially and adversely affect our business.

 

Substantially all of our operations are conducted in China and substantially all of our revenues are sourced from China. Accordingly, our results of operations, financial condition and prospects are influenced by economic, political and legal developments in China. Economic reforms begun in the late 1970s have resulted in significant economic growth. However, any economic reform policies or measures in China may from time to time be modified or revised. China’s economy differs from the economies of most developed countries in many respects, including with respect to the amount of government involvement, level of development, growth rate, control of foreign exchange and allocation of resources. While the PRC economy has experienced significant growth in the past 20 years, growth has been uneven across different regions and among various economic sectors. The PRC government exercises significant control over China’s economic growth through strategically allocating resources, controlling the payment of foreign currency-denominated obligations, setting monetary policy and providing preferential treatment to particular industries or companies. Since late 2003, the PRC government has implemented a number of measures, such as increasing the People’s Bank of China’s statutory deposit reserve ratio and imposing commercial bank lending guidelines, which have had the effect of slowing the growth of credit availability. In 2008 and 2009, however, in response to the global financial crisis, the PRC government has loosened such requirements. Although the Chinese economy has grown significantly in the past decade, that growth may not continue and any slow-down may have a negative effect on our business. Since 2012, the growth of the Chinese economy has slowed. The overall Chinese economy affects our profitability, since expenditures for travel may decrease in a slowing economy. Any adverse changes in economic conditions in China, in the policies of the Chinese government or in the laws and regulations in China could have a material adverse effect on the overall economic growth of China and investment in the travel industry. Such developments could adversely affect our businesses, lead to reduction in demand for our services and adversely affect our competitive position.

 

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Uncertainties with respect to the PRC legal system could adversely affect us.

 

The PRC legal system is a civil law system based on written statutes. Unlike the common law system, prior court decisions may be cited for reference but have limited precedential value.

 

In 1979, the PRC government began to promulgate a comprehensive system of laws and regulations governing economic matters in general. The overall effect of legislation over the past three decades has significantly enhanced the protections afforded to various forms of foreign investments in China. However, China has not developed a fully integrated legal system, and recently enacted laws and regulations may not sufficiently cover all aspects of economic activities in China. In particular, the interpretation and enforcement of these laws and regulations involve uncertainties. Since PRC administrative and court authorities have significant discretion in interpreting and implementing statutory and contractual terms, it may be difficult to evaluate the outcome of administrative and court proceedings and the level of legal protection we enjoy.

 

Furthermore, the PRC legal system is based in part on government policies and internal rules, some of which are not published on a timely basis or at all, and which may have a retroactive effect. As a result, we may not be aware of our violation of any of these policies and rules until sometime after the violation. In addition, any administrative and court proceedings in China may be protracted, resulting in substantial costs and diversion of resources and management attention.

 

We may be adversely affected by the complexity, uncertainties and changes in PRC regulation of internet and other related businesses.

 

We conduct our business primarily through our PRC subsidiary and consolidated affiliated entities in China. Our operations in China are governed by PRC laws and regulations. Our PRC subsidiary is a foreign-invested enterprise and is subject to laws and regulations applicable to foreign investment in China and, in particular, laws applicable to foreign-invested enterprises.

 

The PRC government extensively regulates the Internet and related industries, including foreign ownership of, and the licensing and permit requirements pertaining to, companies in the Internet and other related industries. internet-related laws and regulations in China are relatively new and evolving, and their interpretation and enforcement involve significant uncertainty. As a result, in certain circumstances it may be difficult to determine what actions or omissions may be deemed to be violations of applicable laws and regulations. Issues, risks and uncertainties relating to PRC government regulation of the Internet industry include, but are not limited to, the following:

 

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·                  We do not own the mobile platform or websites, due to the restriction of foreign investment in businesses providing value-added telecommunication services in China, including internet content provision services. As a result, we only have contractual control over our mobile platform and websites. This may significantly disrupt our business, subject us to sanctions, compromise the enforceability of related contractual arrangements or have other harmful effects on us.

 

·                  There are uncertainties relating to the regulation of the Internet and other related industries in China, including evolving licensing practices. This means that permits, licenses or operations at some of our operating entities may be subject to challenge or we may have failed to obtain permits or licenses that applicable regulators may deem necessary for our operations or we may not be able to obtain or renew certain permits or licenses to maintain their validity. For example, we are providing mobile applications to mobile device users free of charge and therefore we do not believe that we need to obtain a separate operating license in addition to the valued-added telecommunications business operating licenses for internet content provision service, or the ICP license, which we have already obtained. Although we believe this is in line with the current market practice, there can be no assurance that we will not be required to apply for an operating license for our mobile applications in the future.

 

·                  New laws and regulations may be promulgated that will regulate internet activities, including the online information and advertising of travel products. If these new laws and regulations are promulgated, additional licenses may be required for our operations. If our operations do not comply with these new regulations at the time they become effective, or if we fail to obtain any licenses required under these new laws and regulations, we could be subject to penalties.

 

On July 13, 2006, the MIIT, the predecessor of which is the Ministry of Information Industry, issued the Notice of the Ministry of Information Industry on Intensifying the Administration of Foreign Investment in Value-added Telecommunications Services. This notice prohibits domestic telecommunication services providers from leasing, transferring or selling telecommunications business operating licenses to any foreign investor in any form, or providing any resources, sites or facilities to any foreign investor for their illegal operation of a telecommunications business in China. According to this notice, either the holder of a value-added telecommunications services operation permit or its shareholders must directly own the domain names and trademarks used by such license holders in their provision of value-added telecommunication services. The notice also requires each license holder to have the necessary facilities, including servers, for its approved business operations and to maintain such facilities in the regions covered by its license. Currently, our Principal VIE and its significant operating subsidiary own the related domain names and trademarks and hold the ICP licenses necessary to conduct our operations and websites in China.

 

The interpretation and application of existing PRC laws, regulations and policies and possible new laws, regulations or policies relating to the Internet and other related industries have created substantial uncertainties regarding the legality of existing and future foreign investments in, and the businesses and activities of, internet and other related businesses in China, including our business. We cannot assure you that we have obtained all the permits or licenses required for conducting our business in China or will be able to maintain our existing licenses or obtain any new licenses if required by any new laws or regulations. There are also risks that we may be found to violate the existing or future laws and regulations given the uncertainty and complexity of China’s regulation of the Internet and other related industries.

 

Under PRC law, insurance agency activities are categorized into “principal business” or “sideline business” and the operation of both is subject to obtaining approval from the relevant authorities. Insurance agencies engaged in internet insurance activities are required to fulfill certain criteria mainly relating to registered capital thresholds, the possession of a value-added telecommunications business related permit and a filing with the China Insurance Regulatory Commission, or the CIRC. See “Item 4.B. Business Overview—Government Regulations—Regulations on Sideline Insurance Agency.” Although our Principal VIE has obtained a Sideline Insurance Agency license, the applicability of the regulations relating to internet insurance with regard to sideline insurance agencies is unclear and, so far, no official interpretations have been issued with respect to this matter. We have yet to complete the filing with the CIRC in accordance with the CIRC rules. If any official interpretations as to their applicability to sideline insurance agencies are issued, we intend to complete such a filing with the CIRC as failure to do so could result in our being subject to penalties imposed by the CIRC, including the imposition of fines and the revocation of our Principal VIE’s Sideline Insurance Agency license.

 

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Furthermore, under PRC law, a company that sets up a branch to conduct business in a location outside its registered address must register with the local administration for industry and commerce, or local AIC, while a liaison office, which is typically for liaison purpose without direct business operation, is generally not required to register, although local AICs may have different practices. Our WFOE currently has 145 offices outside its registered address, which are solely responsible for market promotion and not sales or operations. Only one of their offices has been registered. If the relevant local AIC deems that any of our liaison offices is actually a branch and thus subject to such registration requirements, we may be subject to penalties for failing to register such entity. These penalties may include fines and disgorgement of gains or revocation of business license of our WFOE, although we believe that, as a matter of practice, the authorities typically impose an extreme penalty only after repeated warnings are ignored or where a violation is blatant and continuous. Because of the discretionary nature of regulatory enforcements in the PRC, we cannot assure you that we will not be subject to these penalties as a result of violations of the requirements, or that these penalties would not substantially inhibit our ability to operate our business.

 

If the PRC government were to classify Pay-for-Performance, or P4P services as a form of online advertising or as part of internet content services, the P4P and other related services conducted by our WFOE may require an ICP license or other licenses, our effective tax rate may increase and we may be subject to sanctions, be required to pay delinquent taxes and become subject to additional obligations to examine the content of our platforms.

 

PRC laws and regulations and administrative authorities currently do not classify P4P services and other related services as a form of online advertising or as part of services requiring an ICP license or other licenses. We conduct our P4P and other related business through our WFOE in the PRC, which does not have the qualification to operate online advertising business or hold an ICP license. However, we cannot assure you that the PRC government will not classify P4P and other related services as a form of online advertising or as part of services requiring an ICP license or other licenses in the future. If new regulations characterize P4P and other related services as a form of online advertising or as part of ICP services requiring an ICP license or other licenses, we may have to conduct our P4P business through our Principal VIE or its subsidiaries, which are qualified to operate online advertising business and hold ICP or other licenses, and our tax liability may increase, given the advertising revenues are subject to a 3% government charge for culture-related business in addition to the 6% value-added tax, or VAT. If the change in classification of P4P and other related services were to be retroactively applied, we may be subject to sanctions, including payment of delinquent taxes and fines. In addition, under PRC advertising laws and regulations, an online advertising service provider is obligated to monitor the advertising content posted on its websites to ensure that such content is fair and accurate and in compliance with applicable law. Therefore, the classification of P4P and other related services as a form of online advertising could subject us to an obligation to examine the content of listings of our P4P customers on our platforms and the associated risks. Any change in the classification of P4P and other related service by the PRC government may significantly disrupt our operations and materially and adversely affect our business, results of operations and financial condition.

 

We principally rely on dividends and other distributions on equity paid by our WFOE to fund any cash and financing requirements we may have. Any limitation on the ability of our WFOE to make payments to us, or the tax implications of making payments to us, could have a material adverse effect on our ability to conduct our business or our financial condition.

 

We are a holding company, and we rely principally on dividends and other distributions on equity from our WFOE in China for our cash requirements, including the funds necessary to service any debt we may incur. Current PRC regulations permit our WFOE in China to pay dividends to us only out of its accumulated profits, if any, determined in accordance with PRC accounting standards and regulations. In addition, our WFOE is required to set aside at least 10% of its respective after tax profits each year, if any, to fund certain statutory reserve funds until the aggregate amount of such reserve funds reaches 50% of its registered capital. These reserves are not distributable as cash dividends. At its discretion but in accordance with its articles of association, our WFOE may allocate a discretionary portion of its after-tax profits to staff welfare and bonus funds. Furthermore, if our WFOE incurs debt on its own behalf in the future, the instruments governing the debt may restrict its ability to pay dividends or make other payments to us. As a result, our ability to distribute dividends largely depends on earnings from our WFOE and its ability to pay dividends out of its earnings. We cannot assure you that our WFOE will generate sufficient earnings and cash flows in the near future to pay dividends or otherwise distribute sufficient funds to enable us to meet our obligations, pay interest and expenses or declare dividends.

 

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In addition, under the PRC Enterprise Income Tax Law, or EIT Law, and its implementation rules, distributions of earnings generated by our WFOE after January 1, 2008 and paid to the WFOE’s immediate holding company incorporated in Hong Kong generally will be subject to a withholding tax (unless the PRC tax authorities determine that our Hong Kong subsidiary is a PRC resident enterprise). If certain conditions and requirements under the Arrangement between the Mainland of China and the Hong Kong Special Administrative Region for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income entered into between Hong Kong and the PRC and other related PRC laws and regulations are met, the withholding rate could be reduced from 10% to 5%. The immediate holding company of our PRC subsidiary is Queen’s Road Travel Information Limited, a company incorporated in Hong Kong. Pursuant to the abovementioned laws and regulations, dividends paid by our WFOE to Queen’s Road Travel Information Limited may be subject to 5% withholding tax if certain conditions and requirements are satisfied, subject to approvals by competent PRC tax authorities.

 

In October 2009, the State Administration of Taxation, or the SAT, issued a Circular on How to Interpret and Recognize the “Beneficial Owner” in Tax Treaties, or Circular 601, and certain other related rules. According to Circular 601, non-resident enterprises or individuals that cannot provide valid supporting documents as “beneficial owners” may not be approved to enjoy tax treaty benefits. “Beneficial owners” refer to individuals, enterprises or other organizations that are normally engaged in substantive operations. These rules also set forth certain restrictions on a person’s qualification as a “beneficial owner.” Specifically, the Circular expressly excludes a “conduit company,” or any company established for the purposes of avoiding or reducing tax obligations or transferring or accumulating profits and not engaged in actual operations such as manufacturing, sales or management, from the definition of a “beneficial owner.” As a result, although our WFOE is currently wholly owned by our Hong Kong subsidiary, we may not be able to enjoy the 5% withholding tax rate under the tax treaty with respect to dividends to be paid by our PRC subsidiary to our Hong Kong subsidiary, because our Hong Kong subsidiary may not qualify as a beneficial owner of the dividends paid by our PRC subsidiary.

 

We and/or our Hong Kong subsidiary may be classified as a “PRC resident enterprise” for PRC enterprise income tax purposes, which could result in our global income being subject to 25% PRC enterprise income tax.

 

The EIT Law provides that an enterprise established outside China whose “de facto management body” is located in China is considered a “PRC resident enterprise” and will generally be subject to the uniform 25% enterprise income tax rate, or EIT rate, on its global income. Under the implementation rules of the EIT Law, “de facto management body” is defined as the organization body that effectively exercises management and control over such aspects as the business operations, personnel, accounting and properties of the enterprise.

 

On April 22, 2009, the State Administration of Taxation, or SAT, released the Notice Regarding the Determination of Chinese-Controlled Offshore Incorporated Enterprises as PRC Tax Resident Enterprises on the Basis of De Facto Management Bodies, or Circular 82, that sets out the standards and procedures for determining whether the “de facto management body” of an enterprise registered outside of the PRC and controlled by PRC enterprises or PRC enterprise groups is located within the PRC. Under Circular 82, a foreign enterprise controlled by PRC enterprises or PRC enterprise groups is considered a PRC resident enterprise if all of the following apply: (i) the senior management and core management departments in charge of daily operations are located mainly within the PRC; (ii) financial and human resources decisions are subject to determination or approval by persons or bodies in the PRC; (iii) major assets, accounting books, company seals and minutes and files of board and shareholders’ meetings are located or kept within the PRC; and (iv) at least half of the enterprise’s directors with voting rights or senior management reside within the PRC. Although Circular 82 explicitly provides that the above standards apply to enterprises that are registered outside the PRC and controlled by PRC enterprises or PRC enterprise groups, Circular 82 may reflect the SAT’s criteria for determining the tax residence of foreign enterprises in general. We currently do not believe that we are or our Hong Kong subsidiary is a PRC resident enterprise, because we do not believe that we or our Hong Kong subsidiary meet all of the conditions above. If the PRC tax authorities were to disagree with our position, we or our Hong Kong subsidiary may be subject to PRC enterprise income tax reporting obligations and to 25% PRC enterprise income tax on our global taxable income, except for our income from dividends received from our WFOE, which may be exempt from PRC tax. If we are treated as a PRC resident enterprise, the 25% PRC income tax on our global taxable income could affect our ability to satisfy any cash requirements we may have.

 

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You may be subject to PRC income tax on dividends from us or on any gain realized on the transfer of our ADSs or Class B ordinary shares.

 

Under the EIT Law and its implementation rules, subject to any applicable tax treaty or similar arrangement between the PRC and your jurisdiction of residence that provides for a different income tax arrangement, PRC withholding tax at the rate of 10% is normally applicable to dividends from PRC sources payable to investors that are non-PRC resident enterprises, which do not have an establishment or place of business in the PRC or which have such establishment or place of business if the relevant income is not effectively connected with the establishment or place of business. Any gain realized on the transfer of American depositary shares or shares by such non-PRC resident enterprise investors is also subject to 10% PRC income tax if such gain is regarded as income derived from sources within the PRC unless a treaty or similar arrangement otherwise provides. Under the PRC Individual Income Tax Law and its implementation rules, dividends from sources within the PRC paid to foreign individual investors who are not PRC residents are generally subject to a PRC withholding tax at a rate of 20% and gains from PRC sources realized by such investors on the transfer of American depositary shares or shares are generally subject to 20% PRC income tax, in each case subject to any reduction or exemption set forth in applicable tax treaties and PRC laws. Although substantially all of our business operations are in China, it is unclear whether dividends we pay with respect to our Class B ordinary shares or ADSs, or the gain realized from the transfer of our Class B ordinary shares or ADSs, would be treated as income derived from sources within the PRC and as a result be subject to PRC income tax if we were considered a PRC resident enterprise, as described above. If PRC income tax were imposed on gains realized on the transfer of our ADSs or Class B ordinary shares or on dividends paid to our non-resident investors, the value of your investment in our ADSs or Class B ordinary shares may be materially and adversely affected. Furthermore, our non-PRC shareholders and ADS holders whose jurisdictions of residence have tax treaties or arrangements with China may not qualify for benefits under such tax treaties or arrangements.

 

Regulation and censorship of information disseminated over the Internet in China may adversely affect our business and subject us to liability for information displayed on or linked to our platforms.

 

The PRC government has adopted regulations governing internet access and the distribution of information over the Internet. Under these regulations, internet content providers and internet publishers are prohibited from posting or displaying over the Internet content that, among other things, violates PRC laws and regulations, impairs the national dignity of China, or is reactionary, obscene, superstitious, fraudulent or defamatory. Failure to comply with these requirements may result in the revocation of licenses to provide internet content and other licenses and the closure of the concerned websites. In the past, failure to comply with such requirements has resulted in the closure of certain websites. The website operator may also be held liable for such censored information displayed on or linked to the website.

 

In addition, the MIIT has published regulations that subject website operators to potential liability for content displayed on their websites and the actions of users and others using their systems, including liability for violations of PRC laws prohibiting the dissemination of content deemed to be socially destabilizing. The Ministry of Public Security has the authority to order any local Internet service provider to block any internet website at its sole discretion. From time to time, the Ministry of Public Security has stopped the dissemination over the Internet of information which it believes to be socially destabilizing. The State Administration for the Protection of State Secrets is also authorized to block any website it deems to be leaking State secrets or failing to meet the relevant regulations relating to the protection of State secrets in the dissemination of online information.

 

Although we attempt to monitor the content in our query results and the user-generated reviews and comments on our platforms, we are not able to control or restrict the content of other internet content providers linked to or accessible through our platforms or content (including reviews, as well as pictures and travel experience sharing) generated or placed on our platforms by our users, experts and others. To the extent that PRC regulatory authorities find any content displayed on or linked to our platforms objectionable, they may require us to limit or eliminate the dissemination of such information on our platforms, which may reduce our user traffic and have an adverse effect on our business. In addition, we may be subject to penalties for violations of those regulations arising from information displayed on or linked to our platforms, including a suspension or shutdown of our online operations.

 

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The heightened scrutiny over acquisition transactions by the PRC tax authorities may have a negative impact on our business operations, our acquisition or restructuring strategy or the value of your investment in us.

 

The State Administration of Taxation or the SAT, issued the  Notice on Strengthening Administration of Enterprise Income Tax for Share Transfers by Non-PRC Resident Enterprises, or SAT Circular 698, in 2009 with retroactive effect from January 1, 2008, whereby a non-resident enterprise that transfers the equity interests of a PRC resident enterprise indirectly by disposing of the equity interests of an overseas holding company, or the Indirect Transfer, which lacks reasonable business purpose  may be subject to PRC withholding tax at a rate of up to 10%  from gains derived from such Indirect Transfer. Although the SAT issued the Notice on Several Issues on the Administration of Enterprise Income Tax of Non-PRC Resident Enterprises on March 28, 2011, or SAT circular 24, to provide further clarifications on how Circular 698 and its relevant provisions should be implemented, there remain uncertainties as to how “reasonable commercial purposes” is defined or determined or whether transactions conducted as part of an internal restructuring may be immune to re-characterization. On February 3, 2015, the SAT Notice on the Collection of Corporate Income Tax by Indirect Transfer of Assets by Non-Resident Companies, or SAT Notice 7, was released, which provides clarity as to “reasonable commercial purpose”, and abolishes certain clauses of both Circular 698 and Circular 24. SAT Notice 7 also expands “Indirect Transfer” from equity interests to movable and immovable property in China and provides safe harbor rules for the public trading of shares in a listed company holding taxable China assets and for indirect transfers resulting from a corporate restructuring.

 

SAT Notice 7 also provides that, where an Indirect Transfer occurs, both parties to such Indirect Transfer shall submit the relevant documents to the competent tax authority for tax filling purposes, and enterprise income tax will be payable after the share transfer agreement comes into effect and the registration of the share transfers is completed. Indirect Transfers occurring before SAT Notice 7 but for which tax matters have not been resolved will be governed by SAT Notice 7.

 

SAT Notice 7 is new and there are still uncertainties as to its interpretation and implementation. It brings challenges to both the foreign transferor and transferee of the Indirect Transfer as they are required to make self-assessment on whether the transaction should be subject to PRC tax and to file or withhold the PRC tax accordingly. Further, the PRC tax authorities have discretion under SAT Circular 698 and SAT Notice 7 to make adjustments to the taxable capital gains based on the difference between the fair value of the equity interests transferred and the cost of investment. We have conducted and may conduct acquisitions involving corporate structures and historically our shares were transferred by certain former shareholders to our current shareholders. We cannot assure you that the PRC tax authorities will not, at their discretion, adjust any capital gains and impose tax return filing obligations on us or require us to provide assistance for the investigation of PRC tax authorities with respect thereto. Any PRC tax imposed on a transfer of our shares or any adjustment of such gains would cause us to incur additional costs and may have a negative impact on the value of your investment in us.

 

Discontinuation of any of the preferential tax treatments or imposition of any additional taxes could adversely affect our financial condition and results of operations.

 

China passed the EIT Law and its implementation rules, both of which became effective on January 1, 2008. The EIT Law significantly curtails tax incentives granted to foreign-invested enterprises under the previous laws and regulations. The EIT Law, however, (i) reduces the statutory rate of the enterprise income tax from 33% to 25%, (ii) permits companies established before March 16, 2007 to continue to enjoy their existing tax incentives, adjusted by certain transitional phase-out rules promulgated by the State Council on December 26, 2007, and (iii) introduces new tax incentives, subject to various qualification criteria. The EIT Law and its implementation rules permit certain “high and new technology enterprises strongly supported by the state” that hold independent ownership of core intellectual property to enjoy a preferential enterprise income tax rate of 15% subject to certain new qualification criteria. Our WFOE and Principal VIE were recognized by the relevant authorities as “high and new technology enterprises,” or HNTEs, on December 14, 2009 and were reaffirmed as such pursuant to a three-year review on October 30, 2012, and therefore remain eligible for the reduced 15% corporate income tax rate upon their filing with the relevant tax authorities. The qualification as a “high and new technology enterprise” is subject to annual evaluation and a three-year review by the relevant authorities in China. In order to maintain this qualification and the preferential tax rate, our WFOE and Principal VIE must submit a review application to the Beijing Municipal Science and Technology Commission before October 29, 2015. If either our WFOE or Principal VIE fails to maintain its “high and new technology enterprise” qualifications or renew these qualifications when the relevant term expires, its applicable corporate income tax rate would increase to 25%, which could have a material adverse effect on our financial condition and results of operations. We cannot assure you that we will be able to maintain our current effective tax rate in the future.

 

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The PRC government’s pilot plan to replace the business tax with a VAT may require us to pay more taxes.

 

Pursuant to the PRC Provisional Regulations on Business Tax, taxpayers providing taxable services falling under the category of service industry in China are required to pay a business tax at a normal tax rate of 5% of their revenues. In November 2011, the Ministry of Finance and the SAT promulgated the Pilot Plan for Imposition of Value-Added Tax to Replace Business Tax or the VAT pilot plan. Pursuant to this VAT pilot plan and relevant notices issued by the Beijing Municipal Office of SAT, from September 1, 2012, a VAT is imposed to replace the business tax in the transport and shipping industry and some of the modern service industries in Beijing. Under the VAT pilot plan, a VAT rate of 6% applies to certain modern service industries. Our WFOE and most of our affiliated PRC entities are located in Beijing and, since this pilot plan applies to our businesses, we are subject to a VAT rate of 6%, subject to certain offset by the VAT we pay in connection with the purchases from our suppliers. The 6% VAT rate is higher than the business tax rate that previously applied to us and may have a negative effect on our financial condition and results of operations.

 

With respect to display advertising services, we regularly provide such services at a discount to our standard rates, a standard industry practice in the PRC. These discounts are in the form of free advertising elements, of which the duration and other terms of services are specified as part of the advertisement contract. The VAT pilot plan created uncertainties as to whether these free elements should constitute deemed taxable services and therefore should not be treated as discounts to the overall contract arrangements and should be subject to VAT based on the standard rates of services. We currently do not treat such free elements as giving rise to deemed taxable services for VAT purposes. The rules related to the VAT pilot plan are still evolving and the timing of the promulgation of the final tax rules or related interpretation is uncertain. The estimated amount for this contingency up to December 31, 2014 was RMB7.2 million (US$1.2 million).

 

PRC regulations of loans to PRC entities and direct investment in PRC entities by offshore holding companies may delay or prevent us from making loans or additional capital contributions to our WFOE.

 

We may transfer funds to our WFOE or finance our WFOE by means of shareholder loans or capital contributions. Any loans to our WFOE, which is a foreign-invested enterprise, cannot exceed statutory limits based on the difference between the registered capital and the investment amount of such subsidiary, and shall be registered with the State Administration of Foreign Exchange, or SAFE, or its local counterparts. Furthermore, any capital contributions we make to our WFOE shall be approved by the Ministry of Commerce, or MOFCOM, or its local counterparts. We may not be able to obtain these government registrations or approvals on a timely basis, if at all. If we fail to receive such registrations or approvals, our ability to provide loans or capital contributions to our WFOE in a timely manner may be negatively affected, which could materially and adversely affect our liquidity and our ability to fund and expand our business.

 

In addition, SAFE promulgated the Circular on the Relevant Operating Issues concerning Administration Improvement of Payment and Settlement of Foreign Currency Capital of Foreign-invested Enterprises, or Circular 142, on August 29, 2008. Under Circular 142, registered capital of a foreign-invested company settled in RMB converted from foreign currencies may only be used within the business scope approved by the applicable governmental authority and may not be used for equity investments in the PRC. In addition, foreign-invested companies may not change how they use such capital without SAFE’s approval, and may not in any case use such capital to repay RMB loans if proceeds of such loans have not been utilized. Violations of Circular 142 may result in severe penalties, including heavy fines as set forth in the “Item 4. Information on the Company—B. Business Overview—Government Regulations¾Regulations on Foreign Exchange.” As a result, Circular 142 may significantly limit our ability to transfer the net proceeds from our initial public offering and subsequent offerings or financings to our WFOE, which may adversely affect our liquidity and our ability to fund and expand our business in the PRC.

 

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Furthermore, SAFE promulgated the Circular on Issues concerning Straightening the Administration of Foreign Exchange Businesses, or SAFE Circular 59, on November 9, 2010, which requires the local SAFE branch and banks to closely examine the authenticity of the settlement of net proceeds from offshore offerings and the net proceeds to be settled in the manner described in the offering documents. On March 30, 2015, SAFE issued SAFE Circular 19 which will become effective on June 1, 2015 to reform the administration of conversion of foreign currency registered capitals of FIEs nationwide on the basis of summarizing the experience in the 16 pilot areas. According to SAFE Circular 19, SAFE Circular 142 and SAFE Circular 59 will be repealed simultaneously when SAFE Circular 19 comes into effect. Circular 19 adopts a concept of “discretionary conversion” as opposed to conversion on a payment basis as set forth in Circular 142. Discretionary conversion is defined in Circular 19 as the conversion of a foreign-invested enterprise’s foreign currency registered capital in accordance with the enterprise’s actual business needs. No review of the purpose of the funds is required at the time of conversion under Circular 19. However, use of any Renminbi funds converted from its registered capital shall be based on true transaction. In addition, equity investments using converted registered capital are no longer prohibited under Circular 19. Before Circular 19 comes into effect, Circular 142 and Circular 59 may significantly limit our ability to transfer the net proceeds from our initial public offering to our WFOE and convert the net proceeds into RMB, which may materially and adversely affect our liquidity and our ability to fund and expand our business in the PRC.

 

Restrictions on the remittance of RMB into and out of the PRC and governmental control of currency conversion may limit our ability to pay dividends and other obligations, and may affect the value of your investment.

 

The PRC government imposes controls on the convertibility of the RMB into foreign currencies and the remittance of currency out of China. We receive substantially all of our revenues in RMB and substantially all of our cash inflows and outflows are denominated in RMB. Under our current corporate structure, our income is primarily derived from dividend payments from our subsidiaries in China after they receive payments from our VIEs under various service and other contractual arrangements. We may convert a portion of our revenues into other currencies to meet our foreign currency obligations, such as payments of dividends declared in respect of our ordinary shares, if any. Shortages in the availability of foreign currency may restrict the ability of our WFOE to remit sufficient foreign currency to pay dividends or other payments to us, or otherwise satisfy its foreign currency denominated obligations.

 

Under existing PRC foreign exchange regulations, payments of current account items, including profit distributions, interest payments and trade and service-related foreign exchange transactions, can be made in foreign currencies without prior SAFE approval by complying with certain routine procedural requirements. Therefore, our WFOE is able to pay dividends in foreign currencies to us without prior SAFE approval, provided that we comply with certain routine procedural requirements. However, approval from or registration with competent government authorities is required where the RMB is to be converted into foreign currency and remitted out of China to pay capital expenses such as the repayment of loans denominated in foreign currencies. The PRC government may at its discretion restrict access to foreign currencies for current account transactions in the future. If the foreign exchange control system prevents us from obtaining sufficient foreign currencies to satisfy our foreign currency demands, we may not be able to pay dividends in foreign currencies to our shareholders, including holders of our ADSs. Further, there is no assurance that new regulations will not be promulgated in the future that would have the effect of further restricting the remittance of RMB into or out of PRC. Further, there is no assurance that new regulations will not be promulgated in the future that would have the effect of further restricting the remittance of RMB into or out of PRC.

 

We may be subject to penalties, including restriction on our ability to inject capital into our WFOE and our WFOE’s ability to distribute profits to us, if our PRC resident shareholders or beneficial owners fail to comply with relevant PRC foreign exchange rules.

 

On July 4, 2014, SAFE promulgated the Notice on Relevant Issues Concerning Foreign Exchange Control of Domestic Residents’ Overseas Investment and Financing and Roundtrip Investment through Offshore Special Purpose Vehicles, or SAFE Circular No. 37, which replaced the former Notice on Relevant Issues Concerning Foreign Exchange Administration for PRC Residents to Engage in Financing and Inbound Investment via Overseas Special Purpose Vehicles (generally known as SAFE Circular No. 75) promulgated by SAFE on October 21, 2005.

 

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SAFE Circular No. 37 requires PRC residents to register with local branches of SAFE in connection with their direct establishment or indirect control of an offshore entity for the purpose of overseas investment and financing with such PRC residents’ legally owned assets or equity interests in domestic enterprises or offshore assets or interests, which is referred to in SAFE Circular No. 37 as a “special purpose vehicle.” SAFE Circular No. 37 further requires amendment to the registration in the event of any significant changes with respect to the special purpose vehicle, such as an increase or decrease of capital contributed by PRC residents’ share transfer or exchange, merger, division or other material events. In the event that a PRC resident holding interests in a special purpose vehicle fails to complete the required SAFE registration, the PRC subsidiaries of that special purpose vehicle may be prohibited from making profit distributions to the offshore parent and from carrying out subsequent cross-border foreign exchange activities and the special purpose vehicle may be restricted in its ability to contribute additional capital into its PRC subsidiaries. Furthermore, failure to comply with the various SAFE registration requirements described above could result in liability under PRC law for evasion of foreign exchange controls.

 

Currently, all of our shareholders who are PRC residents have registered with the competent local branch of SAFE with respect to their investments in our company as required by SAFE Circular No. 75 and will update their registration filings with SAFE under SAFE Circular No. 37 when there are any changes that should be registered under SAFE Circular No. 37. However, we may not at all times be fully aware or informed of the identities of all of our shareholders or beneficial owners that are required to make such registrations, and if or when we have such shareholders or beneficial owners, we may not always be able to compel them to comply with SAFE Circular No. 37 requirements. As a result, we cannot assure you that all of our shareholders or beneficial owners who are PRC residents will at all times comply with, or in the future make or obtain any applicable registrations or approvals required by, SAFE Circular No. 37 or other related regulations. The failure or inability of such individuals to comply with the registration procedures set forth in these regulations may subject us to fines or legal sanctions, restrictions on our cross-border investment activities or our PRC subsidiaries’ ability to distribute dividends to, or obtain foreign-exchange-dominated loans from, our company, or prevent us from making distributions or paying dividends. As a result, our business operations and our ability to make distributions to you could be materially and adversely affected.

 

Failure to comply with PRC regulations regarding the registration requirements for stock ownership plan or stock option plan may subject the PRC plan participants or us to fines and other legal or administrative sanctions.

 

Under SAFE regulations, PRC residents who participate in an employee stock ownership plan or stock option plan in an overseas publicly-listed company are required to register with the SAFE or its local branch and complete certain other procedures. Participants of a stock incentive plan who are PRC residents must retain a qualified PRC agent, which could be a PRC subsidiary of such overseas publicly-listed company, to conduct the SAFE registration and other procedures with respect to the stock incentive plan on behalf of these participants. Such participants must also retain an overseas entrusted institution to handle matters in connection with their exercise or sale of stock options. In addition, the PRC agent is required to amend the SAFE registration with respect to the stock incentive plan if there is any material change to the stock incentive plan, the PRC agent or the overseas entrusted institution or other material changes.

 

We and our PRC resident employees who participate in our share incentive plan, which we adopted in 2007, have been subject to these regulations since our company became publicly listed in the United States in November 2013. If we or our PRC resident option grantees fail to comply with these regulations, we or our PRC resident option grantees may be subject to fines and other legal or administrative sanctions. See “Item 4. Information on the Company—B. Business Overview—Government Regulations¾Regulations on Employee Stock Options Plans.”

 

Fluctuation in the value of the RMB may have a material adverse effect on the value of your investment.

 

The value of the RMB against the U.S. dollar and other currencies may fluctuate and is affected by, among other things, changes in political and economic conditions. Although the exchange rate between the RMB and the U.S. dollar has been effectively pegged by the People’s Bank of China since 1994, there can be no assurance that the RMB will remain pegged to the U.S. dollar, especially in light of the significant international pressure on the Chinese government to permit the free floatation of the RMB, which could result in a continuous appreciation of the RMB against the U.S. dollar. Our revenues and costs are mostly denominated in RMB. We rely entirely on dividends and other fees paid to us by our subsidiaries and affiliated entities in China. Any significant revaluation of the RMB may materially and adversely affect our cash flows, revenues, earnings and financial position, and the value of, and any dividends payable on, our ADSs in U.S. dollars. For example, an appreciation of the RMB against the U.S. dollar would make any new RMB-denominated investments or expenditures more costly to us, to the extent that we need to convert U.S. dollars into RMB for such purposes.

 

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The value of the RMB against the U.S. dollar and other currencies may fluctuate and is affected by, among other things, changes in political and economic conditions. On July 21, 2005, the PRC government changed its decade-old policy of pegging the value of the RMB to the U.S. dollar. Under the new policy, the RMB is permitted to fluctuate within a narrow and managed band against a basket of certain foreign currencies. This change in policy resulted in an over 20% appreciation of the RMB against the U.S. dollar over the following three years. For almost two years after reaching a high against the U.S. dollar in July 2008, however, the RMB traded within a narrow band against the U.S. dollar, remaining within 1% of its July 2008 high. As a consequence, the RMB fluctuated sharply since July 2008 against other freely traded currencies, in tandem with the U.S. dollar. In April 2012, the PRC government announced that it would allow more RMB exchange rate fluctuation. However, it remains unclear how this announcement might be implemented. There remains significant international pressure on the PRC government to adopt a more flexible currency policy, which could result in greater fluctuation of the RMB against the U.S. dollar. From June 2010 to January 2014, the RMB has appreciated against the U.S. dollar from approximately RMB6.82 per U.S. dollar to RMB6.05 per U.S. dollar, reaching a new historical height, followed by the RMB depreciating against the U.S. dollar to RMB6.19 per U.S. dollar on December 31, 2014. Substantially revenues and costs are denominated in RMB and a significant portion of our financial assets are also denominated in RMB. We are a holding company and we rely on dividends paid by our operating subsidiaries in China for our cash needs. Any significant revaluation of the RMB may materially and adversely affect any dividends payable on our ADSs in U.S. dollars. To the extent that we need to convert U.S. dollars we received from our initial public offering into RMB for our operations, appreciation of the RMB against the U.S. dollar would have an adverse effect on the RMB amount we would receive from the conversion. Conversely, if we decide to convert our RMB into U.S. dollars for the purpose of making payments for dividends on our ordinary shares or ADSs or for other business purposes, appreciation of the U.S. dollar against the RMB would have a negative effect on the U.S. dollar amount available to us.

 

PRC laws and regulations establish more complex procedures for some acquisitions of Chinese companies by foreign investors, which could make it more difficult for us to pursue growth through acquisitions in China.

 

PRC laws and regulations, such as the New M&A Rules, Anti-monopoly Law of the PRC and the Rules of Ministry of Commerce on Implementation of Security Review System of Mergers and Acquisitions of Domestic Enterprises by Foreign Investors promulgated by the MOFCOM in August 2011, or the MOFCOM Security Review Rules, established additional procedures and requirements that are expected to make merger and acquisition activities in China by foreign investors more time-consuming and complex, including requirements in some instances that MOFCOM be notified in advance of any change of control transaction in which a foreign investor takes control of a PRC domestic enterprise, or that the approval from MOFCOM be obtained in circumstances where overseas companies established or controlled by PRC enterprises or residents acquire affiliated domestic companies. PRC laws and regulations also require certain merger and acquisition transactions to be subject to merger control review or security review.

 

The MOFCOM Security Review Rules are formulated to implement the Notice of the General Office of the State Council on Establishing the Security Review System for Mergers and Acquisitions of Domestic Enterprises by Foreign Investors promulgated on February 3, 2011, or Circular No. 6. The MOFCOM Security Review Rules came into effect on September 1, 2011 and replaced the Interim Provisions of the Ministry of Commerce on Matters Relating to the Implementation of the Security Review System for Mergers and Acquisitions of Domestic Enterprises by Foreign Investors promulgated by MOFCOM in March 2011. According to these circulars and rules, a security review is required for mergers and acquisitions by foreign investors having “national defense and security” concerns and mergers and acquisitions by which foreign investors may acquire the “de facto control” of domestic enterprises that have “national security” concerns. In addition, when deciding whether a specific merger or acquisition of a domestic enterprise by foreign investors is subject to the security review, the MOFCOM will look into the substance and actual impact of the transaction. The MOFCOM Security Review Rules further prohibit foreign investors from bypassing the security review requirement by structuring transactions through proxies, trusts, indirect investments, leases, loans, control through contractual arrangements or offshore transactions.

 

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There is no requirement for foreign investors in those mergers and acquisitions transactions already completed prior to the promulgation of Circular No. 6 to submit such transactions to MOFCOM for security review. As we have already obtained “de facto control” over our affiliated PRC entities prior to the effectiveness of these circulars and rules, we do not believe that we are required to submit our existing contractual arrangement to the MOFCOM for security review.

 

However, as these circulars and rules are relatively new and there is a lack of clear statutory interpretation on the implementation of the same, there is no assurance that the MOFCOM will not apply these national security review-related circulars and rules to the acquisition of equity interest in our WFOE. If we are found to be in violation of the MOFCOM Security Review Rules and other PRC laws and regulations with respect to merger and acquisition activities in China, or fail to obtain any of the required approvals, the relevant regulatory authorities would have broad discretion in dealing with such violation, including levying fines, confiscating our income, revoking our WFOE’s business or operating licenses and requiring us to restructure or unwind the relevant ownership structure or operations. Any of these actions could cause significant disruption to our business operations and may materially and adversely affect our business, financial condition and results of operations. Further, if the business of any target company that we plan to acquire falls into the ambit of security review, we may not be able to successfully acquire such company either by equity or asset acquisition, capital contribution or through any contractual arrangement. We may grow our business in part by acquiring other companies operating in our industry. Complying with the requirements of the relevant regulations to complete such transactions could be time consuming, and any required approval processes, including approval from MOFCOM, may delay or inhibit our ability to complete such transactions, which could affect our ability to expand our business or maintain our market share.

 

We face certain risks relating to the real properties that we lease.

 

We lease real properties from third parties primarily for our office use in the PRC, and we have certain title defects relating to these properties. The premises currently used by our headquarters in Beijing, China, are leased from a third party. The registered uses for such building and its underlying land do not include use by an industrial or commercial company like us. Therefore, the lease of such a property to us shall be subject to approval by the competent government authorities and may be subject to payment of premium fees to the government by the lessor. We cannot ensure that the lessor has completed all or any of the necessary formalities with the relevant governmental authorities.

 

We also lease from third parties certain other real properties, and the title certificates or building ownership certificates for some of those properties have not been provided to us. We cannot assure you that title to these properties we currently lease will not be challenged. In addition, we have not registered any of our lease agreements with relevant PRC governmental authorities as required by PRC law and, although failure to do so does not in itself invalidate the leases, we may not be able to defend these leases against bona fide third parties.

 

As of the date of this annual report, we are not aware of any actions, claims or investigations being contemplated by government authorities with respect to the defects in our leased real properties or any challenges by third parties to our use of these properties. However, if third parties who purport to be property owners or beneficiaries of the mortgaged properties challenge our right to lease these properties, we may not be able to protect our leasehold interest and may be ordered to vacate the affected premises, which could in turn materially and adversely affect our business and operating results.

 

The enforcement of the PRC Labor Contract Law and other labor-related regulations in the PRC may adversely affect our business and our results of operations.

 

On June 29, 2007, the Standing Committee of the National People’s Congress of China enacted the Labor Contract Law, which became effective on January 1, 2008. The PRC Labor Contract Law introduces specific provisions related to fixed-term employment contracts, part-time employment, probation, consultation with labor union and employee assemblies, employment without a written contract, dismissal of employees, severance, and collective bargaining, which together represent enhanced enforcement of labor laws and regulations. According to the PRC Labor Contract Law, an employer is obliged to sign an unlimited-term labor contract with any employee who has worked for the employer for ten consecutive years. Further, if an employee requests or agrees to renew a fixed-term labor contract that has already been entered into twice consecutively, the resulting contract must have an unlimited term, with certain exceptions. The employer must pay severance to an employee where a labor contract is terminated or expires, with certain exceptions. In addition, the government has continued to introduce various new labor-related regulations after the effectiveness of the PRC Labor Contract Law. For example, regulations require that annual leave ranging from five to 15 days be made available to employees and that employees be compensated for any untaken annual leave days at a rate of three times their daily salary, subject to certain exceptions. On October 28, 2010, the Standing Committee of the National People’s Congress promulgated the PRC Social Insurance Law, which became effective on July 1, 2011. According to the PRC Social Insurance Law, employees must participate in pension insurance, work-related injury insurance, medical insurance, unemployment insurance and maternity insurance and the employers must, together with their employees or separately, pay the social insurance premiums for such employees.

 

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As a result of these new regulations designed to enhance labor protection, we expect our labor costs to increase. In addition, as the interpretation and implementation of these new regulations are still evolving, our employment practice may not at all times be deemed in compliance with the new regulations. If we are subject to severe penalties or incur significant liabilities in connection with labor disputes or investigations, our business and results of operations may be adversely affected.

 

Our auditor, like other independent registered public accounting firms operating in China, is not permitted to be subject to inspection by the Public Company Accounting Oversight Board, and as such, investors may be deprived of the benefits of such inspection.

 

Our independent registered public accounting firm that issued the audit reports included elsewhere in this annual report, as an auditor of companies that are traded publicly in the United States and a firm registered with the Public Company Accounting Oversight Board (United States), or PCAOB, is required by the laws of the United States to undergo regular inspections by the PCAOB to assess its compliance with the laws of the United States and applicable professional standards. Because our auditor is located in China, a jurisdiction where the PCAOB is currently unable to conduct inspections without the approval of the PRC authorities, our auditor, like other independent registered public accounting firms operating in China, is currently not inspected by the PCAOB.

 

Inspections of other firms that the PCAOB has conducted outside of China have identified deficiencies in those firms’ audit procedures and quality control procedures, and such deficiencies may be addressed as part of the inspection process to improve future audit quality. The inability of the PCAOB to conduct inspections of independent registered public accounting firms operating in China makes it more difficult to evaluate the effectiveness of our auditor’s audit procedures or quality control procedures, and to the extent that such inspections might have facilitated improvements in our auditor’s audit procedures and quality control procedures, investors may be deprived of such benefits.

 

Additional remedial measures imposed on the Big Four PRC-based accounting firms, including our independent registered public accounting firm, could result in our financial statements being determined to not be in compliance with the requirements of the Exchange Act.

 

In December 2012, the SEC instituted administrative proceedings against the Big Four PRC-based accounting firms, including our independent registered public accounting firm, alleging that these firms had violated U.S. securities laws and the SEC’s rules and regulations thereunder by failing to provide to the SEC the firms’ audit work papers with respect to certain PRC-based companies that are publicly traded in the United States. On January 22, 2014, the administrative law judge, or the ALJ, presiding over the matter rendered an initial decision that each of the firms had violated the SEC’s rules of practice by failing to produce audit workpapers to the SEC. The initial decision censured each of the firms and barred them from practicing before the SEC for a period of six months. The Big Four PRC-based accounting firms appealed the ALJ’s initial decision to the SEC. The ALJ’s decision does not take effect unless and until it is endorsed by the SEC. On February 6, 2015, the four China-based accounting firms each agreed to a censure and to pay a fine to the SEC to settle the dispute and avoid suspension of their ability to practice before the SEC and audit U.S.-listed companies. The settlement required the firms to follow detailed procedures and to seek to provide the SEC with access to Chinese firms’ audit documents via the China Securities Regulatory Commission, or the CSRC. If future document productions fail to meet specified criteria, the SEC retains authority to impose a variety of additional remedial measures on the firms depending on the nature of the failure.

 

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We cannot predict if the SEC will further review the four China-based accounting firms’ compliance with specified criteria or if the results of such a review would result in the SEC imposing penalties such as suspensions or restarting the administrative proceedings. If the Big Four PRC-based accounting firms, including our independent registered public accounting firm, were to be ultimately barred from practicing before the SEC, and we were unable to timely find another registered public accounting firm to audit and issue an opinion on our financial statements, our financial statements could be determined to not be in compliance with the requirements of the Exchange Act. Such a determination could ultimately lead to our delisting from NASDAQ or deregistration from the SEC, or both, which would substantially reduce or effectively terminate the trading of our ADSs in the United States.

 

Risks Related to Our ADSs

 

The market price for our ADSs may be volatile, which could result in substantial losses to you.

 

The daily closing trading prices of our ADSs ranged from US$21.22 to US$35.53 in 2014. The trading price of our ADSs is likely to be volatile and could fluctuate widely due to factors beyond our control. This may happen because of broad market and industry factors, like the performance and fluctuation in market prices of other companies with business operations located mainly in China that have listed their securities in the United States. The securities of some of these companies have experienced significant volatility since their initial public offerings, including, in some cases, substantial declines in the trading prices of their securities. The trading performances of other Chinese companies’ securities after their offerings, including internet companies, may affect the attitudes of investors towards Chinese companies listed in the United States, which consequently may impact the trading price of our ADSs, regardless of our actual operating performance. In addition, any negative news or perceptions about inadequate corporate governance practices, business practice, fraudulent accounting, corporate structure or matters of other Chinese companies may also negatively affect the attitudes of investors towards Chinese companies in general, including us, regardless of whether we have conducted any inappropriate activities. Volatility in global capital markets, as was experienced during the recent global financial crisis and the ongoing European debt crisis, could also have an adverse effect on the market price of our ADSs. Furthermore, the securities market has from time to time experienced significant price and volume fluctuations that are not related to the operating performance of particular companies. These market fluctuations may also materially and adversely affect the market price of our ADSs.

 

In addition to market and industry factors, the price and trading volume for our ADSs may be highly volatile due to specific factors, including the following:

 

·                  actual or anticipated fluctuations in our quarterly results of operations;

 

·                  changes in financial estimates by securities research analysts;

 

·                  negative publicity, studies or reports;

 

·                  changes in the economic performance or market valuations of other companies operating in our industry;

 

·                  announcements by us or our competitors of material acquisitions, strategic partnerships, joint ventures or capital commitments;

 

·                  fluctuations of exchange rates between RMB and the U.S. dollar;

 

·                  intellectual property litigation;

 

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·                  actual or threatened litigation arising from other reasons including contract disputes with our business partners;

 

·                  release or expiry of lock-up or other transfer restrictions on our outstanding shares or ADSs;

 

·                  regulatory developments affecting us, our customers and our industry, and

 

·                  sales or perceived potential sales of additional ADSs or ordinary shares.

 

Any of these factors may result in large and sudden changes in the volume and price at which our ADSs will trade.

 

Our quarterly results may fluctuate, making quarterly comparisons and financial forecasting difficult, and could fall below investor expectations or estimates by securities research analysts, which may cause the trading price of our ADSs to decline.

 

Our revenues and operating results have varied significantly from quarter to quarter because our business experiences seasonal fluctuations, which reflect seasonal trends for demand for the travel products searched and advertised on our platform. Traditional leisure travel bookings in China are generally more frequent in the first and third quarter of the year primarily, because during the first quarter, many people travel to reunite with their families for the Chinese New Year holiday, and, during the third quarter, summer break for students, favorable weather throughout China and advance travel booking for the National Day holiday all contribute to an increased amount of travel activities in China. We have seen and expect to continue to see that the most significant quarter-over-quarter growth of our revenues will be earned in the first and third quarters. However, the historical seasonality of our business has been relatively mild due to the rapid growth we have experienced. In addition, advertising spending has historically been cyclical in nature, reflecting overall economic conditions as well as individual travel patterns. As our business is rapidly changing and evolving, which has tended to mask the cyclicality and seasonality of our business, our historical operating results may not be useful to you in predicting our future operating results. As our growth rate slows, the seasonality and cyclicality of our business will become more pronounced and cause our operating results to fluctuate.

 

A number of factors, many of which are beyond our control, may cause our results of operations for future periods to fall below the expectations of public market analysts and investors, causing the market price of our securities to decline. Factors that may affect our quarterly results include, but are not limited to:

 

·                  seasonal variations in operating results;

 

·                  the discretionary nature of our users’ demands and spending patterns;

 

·                  the cyclical nature of advertising spending;

 

·                  competition from our competitors;

 

·                  vulnerability of our business to a general economic downturn in the global economy; and

 

·                  changes in the laws that affect our operations.

 

As a result, investors should not rely on quarter-to-quarter comparisons of results of operations as an indication of future performance.

 

Substantial future sales or the perception of sales of our ADSs or ordinary shares in the public market could cause the price of our ADSs to decline.

 

Sales of substantial amounts of our ordinary shares or ADSs, including those issued upon the exercise of outstanding options, in the public market, or the perception that these sales could occur, could adversely affect the price of our ADSs and could impair our ability to raise capital through the sale of additional shares. Such sales may also make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate. As of March 31, 2015, we had an aggregate of 360,057,951 ordinary shares issued and outstanding, excluding 11,450,000 Class B ordinary shares issuable upon the exercise of warrants held by Baidu. All our ordinary shares represented by ADSs were freely transferable by persons other than our directors, executive officers and other affiliates (as that term is defined in the Securities Act) without restriction or additional registration under the Securities Act. The remaining ordinary shares will be available for sale subject to volume and other restrictions as applicable under Rules 144 and 701 under the Securities Act.

 

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

 

You should not rely on the benchmark revenue information that we agreed with Baidu in the Zhixin Cooperation Agreement, which is subject to inherent uncertainties, when you make your investment decisions.

 

In the Zhixin Cooperation Agreement we entered into with Baidu in October 2013, we agreed to use our best business efforts to achieve certain benchmark revenue during the initial term of the agreement, which will end on December 31, 2016. Such benchmark revenue information was the result of commercial negotiations between Baidu and us and the sole purpose of such benchmark revenue information is to determine each party’s economic entitlement of the excess part of revenue generated from the exclusive operation right Baidu granted to us. Such benchmark revenue information was not negotiated or provided with a view towards compliance with published guidelines of the SEC and the Public Company Accounting Oversight Board (United States) for the preparation and presentation of prospective financial information and should not be read or interpreted as such. Our actual performance following the grant of exclusive rights to operate Baidu’s new travel platforms is based upon a number of assumptions and estimates that are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control, and upon assumptions with respect to future business decisions, which are subject to change. We did not achieve the benchmark revenue target as stated in the Zhixin Cooperation Agreement for the year ended December 31, 2014. No assurance can be given that we could achieve the benchmark revenue as agreed in the agreement with Baidu in the future and you should not rely on such benchmark revenue information when making investment decisions.

 

You may face difficulties in protecting your interests, and your ability to protect your rights through the U.S. federal courts may be limited because we are organized under Cayman Islands law, conduct substantially all of our operations in China and all of our directors and officers reside outside the United States.

 

Our corporate affairs are governed by our amended and restated memorandum and articles of association and by the Companies Law (2013 Revision) of the Cayman Islands and the common law of the Cayman Islands. The rights of shareholders to take legal action against our directors and us, actions by minority shareholders and the fiduciary duties of our directors to us under Cayman Islands law are to a large extent governed by the common law of the Cayman Islands. The common law of the Cayman Islands is derived in part from comparatively limited judicial precedent in the Cayman Islands as well as from English common law, which has persuasive, but not binding, authority on a court in the Cayman Islands. The rights of our shareholders and the fiduciary duties of our directors under Cayman Islands law are not as clearly established as they would be under statutes or judicial precedents in the United States. In particular, the Cayman Islands have a less developed body of securities laws as compared to the U.S. and provide significantly less protection to investors. Therefore, our public shareholders may have more difficulties in protecting their interests in the face of actions by our management, directors or controlling shareholders than would shareholders of a corporation incorporated in a jurisdiction in the United States. In addition, Cayman Islands companies may not have standing to initiate a shareholder derivative action before the federal courts of the United States. As a result, our ability to protect our interests if we are harmed in a manner that would otherwise enable us to sue in a United States federal court may be limited.

 

We are incorporated in the Cayman Islands, and conduct substantially all of our operations in China through our WFOE and Principal VIE in China. All of our officers reside outside the United States and some or all of the assets of those persons are located outside of the United States. As a result, it may be difficult or impossible for you to effect service of process within the United States upon us or these individuals or to bring an action against us or against these individuals in the United States in the event that you believe that your rights have been infringed under securities laws or otherwise. Even if you are successful in bringing an action of this kind, the laws of the Cayman Islands and of China may render you unable to enforce a judgment against our assets or the assets of our directors and officers. There is no statutory recognition in the Cayman Islands of judgments obtained in the United States, although the courts of the Cayman Islands will generally recognize and enforce a non-penal judgment of a foreign court of competent jurisdiction without retrial on the merits.

 

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As a result of all of the above, our public shareholders may have more difficulty in protecting their interests through actions against our management, directors or major shareholders than would shareholders of a corporation incorporated in a jurisdiction in the United States.

 

You may not have the same voting rights as the holders of our Class B ordinary shares and must act through the depositary to exercise your rights.

 

Holders of our ADSs will not be able to exercise voting rights attaching to the shares represented by our ADSs on an individual basis, unless he/she converts such ADSs into Class B ordinary shares registered directly in his/her own name. Holders of our ADSs will appoint the depositary or its nominee as their representative to exercise the voting rights attaching to the shares represented by the ADSs. You may not receive voting materials in time to instruct the depositary to vote, and it is possible that you, or persons who hold their ADSs through brokers, dealers or other third parties, will not have the opportunity to exercise a right to vote. Upon our written request, the depositary will mail to you a shareholder meeting notice which contains, among other things, a statement as to the manner in which your voting instructions may be given, including an express indication that such instructions may be given or deemed given to the depositary to give a discretionary proxy to a person designated by us if no instructions are received by the depositary from you on or before the response date established by the depositary. However, no voting instruction shall be deemed given and no such discretionary proxy shall be given with respect to any matter as to which we inform the depositary that (i) we do not wish such proxy given, (ii) substantial opposition exists, or (iii) such matter materially and adversely affects the rights of shareholders. In addition, the depositary and its agents are not responsible for failing to carry out voting instructions or for the manner of carrying out voting instructions. This means that you may not be able to exercise your right to vote and there may be nothing you can do if the shares underlying your ADSs are not voted as you requested.

 

You may be subject to limitations on the sale, deposit, cancellation and transfer of your ADSs.

 

Your ADSs are transferable on the books of the depositary. However, the depositary may close its transfer books at any time or from time to time when it deems expedient in connection with the performance of its duties. In addition, the depositary may refuse to deliver, transfer or register transfers of ADSs generally when our books or the books of the depositary are closed, or at any time if we or the depositary thinks it advisable to do so because of any requirement of law or of any government or governmental body, or under any provision of the deposit agreement, or for any other reason.

 

You may not be able to participate in rights offerings and may experience dilution of your holdings as a result.

 

If we offer holders of our Class B ordinary shares any rights to subscribe for additional shares or any other rights, the depositary may make these rights available to you. However, the depositary may allow rights that are not distributed or sold to lapse. In that case, you will receive no value for them. In addition, U.S. securities laws may restrict the sale, deposit, cancellation and transfer of the ADSs issued after exercise of rights. Under the deposit agreement, the depositary will not distribute rights to holders of ADSs unless the distribution and sale of rights and the securities to which these rights relate are either exempt from registration under the Securities Act, with respect to all holders of ADSs, or are registered under the provisions of the Securities Act. We can give no assurance that we can establish an exemption from registration under the Securities Act and we are under no obligation to file a registration statement with respect to these rights or underlying securities or to endeavor to have a registration statement declared effective. Accordingly, you may be unable to participate in our rights offerings and may experience dilution of your holdings as a result.

 

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You may lose some or all of the value of the distribution by the depositary if the depositary cannot convert RMB into U.S. dollars on a reasonable basis.

 

The depositary will convert any cash dividend or other cash distribution we pay on the Class B ordinary shares into U.S. dollars, if it can do so on a reasonable basis and can transfer the U.S. dollars to the United States. If that is not possible or if any approval from any government is needed and cannot be obtained, the depositary is allowed to distribute RMB only to those ADS holders to whom it is possible to do so. It will hold RMB it cannot convert for the account of the ADS holders who have not been paid. However, it will not invest RMB and it will not be liable for interest. In addition, if the exchange rates fluctuate during a time when the depositary cannot convert RMB, the ADS holders who have not been paid may lose some or all of the value of the distribution.

 

You may not receive distributions on our Class B ordinary shares or any value for them if such distribution is illegal or impractical or if any required government approval cannot be obtained in order to make such distribution available to you.

 

The depositary of our ADSs has agreed to pay to you the cash dividends or other distributions it or the custodian receives on our Class B ordinary shares or other deposited securities after deducting its fees and expenses, although we do not expect to pay dividends in the near future. You will receive these distributions in proportion to the number of Class B ordinary shares your ADSs represent. However, the depositary is not responsible if it decides that it is unlawful or impractical to make a distribution available to any holders of ADSs. We have no obligation under the U.S. securities laws to register the ADSs, Class B ordinary shares, rights or other securities distributed through such distributions. We also have no obligation to take any other action to permit the distribution of ADSs, Class B ordinary shares, rights or anything else to holders of ADSs. This means that you may not receive the distribution we make on our Class B ordinary shares or any value for them if it is illegal or impractical for us to make them available to you. These restrictions may have a material adverse effect on the value of your ADSs.

 

Our dual-class share structure with different voting rights will limit your ability to influence corporate matters and could discourage others from pursuing any change of control transactions that holders of our Class B ordinary shares and the ADSs may view as beneficial.

 

Our ordinary shares are divided into Class A ordinary shares and Class B ordinary shares. On all matters subject to shareholders’ vote and put to a vote on a poll, holders of Class A ordinary shares are entitled to three votes per share, while holders of Class B ordinary shares are entitled to one vote per share. Our ADSs represent our Class B ordinary shares. In addition, all options granted prior to or to be granted after the completion of our initial public offering entitle option holders to the equivalent number of Class B ordinary shares once the options are vested and exercised. Upon any sale, pledge, transfer, assignment or disposition of a Class A ordinary share by its holder to a person who is not already a holder of Class A ordinary shares and is not an affiliate (as defined in our memorandum and articles of association) of such holder, such Class A ordinary share shall automatically convert into one Class B ordinary share without any actions on the part of the transferor or the transferee. If Class A ordinary shares are transferred by a shareholder to its affiliate, and within six months after such transfer there is a change of beneficial ownership (as defined in Rule 13d-3 under the Exchange Act) of the Class A ordinary shares held by that affiliate, then such Class A ordinary shares will automatically and immediately convert into an equal number of Class B ordinary shares. Class A ordinary shares may be converted into an equal number of Class B ordinary shares at any time at the election of the holder of the Class A ordinary shares. In no event shall Class B ordinary shares be convertible into Class A ordinary shares.

 

Due to the disparate voting powers attached to these two classes of ordinary shares, as of March 31, 2015 our existing Class A ordinary shareholders collectively own approximately 83.2% of the total voting power represented by our outstanding ordinary shares, and our controlling shareholder Baidu alone possesses approximately 68.7% of the total voting power represented by our outstanding ordinary shares and will have considerable influence over matters requiring shareholder approval, including election of directors and significant corporate transactions such as a merger. Please also see “—Risks Relating to our Business — Baidu will be able to control the outcome of a large number of shareholder actions in our company.” This concentrated control will limit your ability to influence corporate matters and could discourage others from pursuing any potential merger, takeover or other change of control transactions that holders of Class B ordinary shares and ADSs may view as beneficial.

 

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We have granted, and may continue to grant, employee share options, restricted shares and other types of awards under our share incentive plans, which may result in increased share-based compensation expenses.

 

We adopted a share incentive plan in 2007, as most recently amended and restated in February 2015. We are required to account for share-based compensation in accordance with Financial Accounting Standards Board, or FASB, Accounting Standards Codification, or ASC, Topic 718, Compensation—Stock Compensation, which requires a company to recognize, as an expense, the fair value of share options and other equity incentives to employees based on the fair value of equity awards on the date of the grant, with the compensation expense recognized over the period in which the recipient is required to provide service in exchange for the equity award. As of March 31, 2015, options to purchase a total of 24,388,798 Class B ordinary shares were outstanding under our share incentive plan. For the years ended December 31, 2012, 2013 and 2014, we recorded RMB27.2 million, RMB63.7 million and RMB 266.4 million (US$42.9 million), respectively, in share-based compensation expenses. We believe the granting of share-based compensation is of significant importance to our ability to attract, retain and motivate our management team and talented employees, and we will continue to grant share-based compensation to employees in the future. As a result, our expenses associated with share-based compensation may increase significantly, which may have an adverse effect on our results of operations. See Note 2 of the Notes to the Consolidated Financial Statements for the Years ended December 31, 2012, 2013 and 2014 included in this annual report for a more detailed presentation of accounting for our share-based compensation plan.

 

We are a “controlled company” within the meaning of the NASDAQ Stock Market Rules and, as a result, we rely on exemptions from certain corporate governance requirements that provide protection to shareholders of other companies, and we also rely on the foreign private issuer exemption from certain corporate governance requirements under the NASDAQ Stock Market Rules.

 

Since Baidu has more than 50% of the total voting rights in our company, we are a “controlled company” under the NASDAQ Stock Market Rules. Pursuant to NASDAQ Stock Market Rules, for as long as we are a controlled company, we are also exempt from certain corporate governance requirements otherwise applicable to companies listed on NASDAQ.

 

As a foreign private issuer whose ADSs are listed on the NASDAQ, we are permitted to follow certain home country corporate governance practices pursuant to exemptions under the NASDAQ Stock Market Rules. A foreign private issuer must disclose in its annual reports filed with the SEC each requirement under the NASDAQ Stock Market Rules with which it does not comply, followed by a description of its applicable home country practice. Our Cayman Islands home country practices may afford less protection to holders of our ADSs. We follow in certain cases our home country practices and rely on certain exemptions provided by the NASDAQ Stock Market Rules to foreign private issuers, including, among others, exemption from the requirement to hold an annual meeting of shareholders no later than one year after an issuer’s fiscal year end, exemptions from the requirement that a board of directors comprised of a majority of independent directors, and exemptions from the requirements that an issuer’s nominating and corporate governance committee and compensation committee, each of which should comprised solely of independent directors. See “Item 6. Directors, Senior Management and Employees—C. Board Practices” and “Item 16G. Corporate Governance” for more information on the significant differences between our corporate governance practices and those followed by U.S. companies under the NASDAQ Rules. As a result of our reliance on the corporate governance exemptions available to foreign private issuers, you will not have the same protection afforded to shareholders of companies that are subject to all of NASDAQ’s corporate governance requirements.

 

Furthermore, because we qualify as a foreign private issuer under the Exchange Act, we are exempt from certain provisions of the Exchange Act that are applicable to U.S. public companies, including (i) the sections of the Exchange Act regulating the solicitation of proxies, consents or authorizations in respect of a security registered under the Exchange Act, (ii) the sections of the Exchange Act requiring insiders to file public reports of their stock ownership and trading activities and liability for insiders who profit from trades made in a short period of time, and (iii) the rules under the Exchange Act requiring the filing with the SEC of quarterly reports on Form 10-Q containing unaudited financial and other specified information, or current reports on Form 8-K, upon the occurrence of specified significant events. As a result, you may not be provided with the same benefits as a holder of shares of a U.S. issuer.

 

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There can be no assurance that we will not be a passive foreign investment company, or a PFIC, for any taxable year, which could result in adverse U.S. federal income tax consequences to U.S. holders of our ADSs or Class B ordinary shares.

 

A non-U.S. corporation will be a PFIC for any taxable year if either (i) at least 75% of its gross income is “passive income” or (ii) at least 50% of the average quarterly value of its assets consists of assets that produce, or are held for the production of, passive income. It is not entirely clear how the contractual arrangements between us and our VIEs will be treated for purposes of the PFIC rules. Moreover, the determination of whether we are a PFIC is an annual test that is based on the composition of our income and assets and the value of our assets from time to time. Because the treatment of our contractual arrangements with our VIEs is not entirely clear, and because the determination of whether we are a PFIC will depend on the composition of our income and assets and the value of our assets from time to time, which may be based on the market price of our ADSs, which is likely to fluctuate (and may fluctuate considerably given that market prices of internet companies historically have been especially volatile), we cannot assure you that we will not be a PFIC for our current taxable year or any other taxable year. If we were a PFIC for any taxable year during which a U.S. person held an ADS or a Class B ordinary share, certain adverse U.S. federal income tax consequences could apply to such U.S. person. See “Item 10. Additional Information—E. Taxation—U.S. Federal Income Tax Considerations—Passive Foreign Investment Company Rules.”

 

Item 4. INFORMATION ON THE COMPANY

 

A.                HISTORY AND DEVELOPMENT OF THE COMPANY

 

Mr. Frederick Demopoulos, Mr. Chenchao (CC) Zhuang and Mr. Douglas Khoo launched www.qunar.com, which was then registered under Mr. Zhuang’s personal name, in May 2005 to provide online travel search services. In March 2006, our Principal VIE was established in the PRC and commenced operations of online travel search business. In July 2006, Qunar Cayman Islands Limited, or Qunar Cayman, was incorporated in the Cayman Islands.

 

In October 2006, Qunar Cayman established the WFOE, Beijing Qunar Software Technology Co., Ltd., as Qunar Cayman’s wholly foreign-owned enterprise in the PRC. In August 2010, Qunar Cayman set up Queen’s Road Travel Information Limited, or Qunar HK, as its wholly-owned subsidiary in Hong Kong. Through a share transfer agreement between Qunar Cayman and Qunar HK in March 2011, the WFOE became a wholly-owned subsidiary of Qunar HK and an indirect wholly-owned subsidiary of Qunar Cayman.

 

PRC laws, regulations and rules currently restrict foreign-invested entities engaging in the operation of internet-related businesses in China. To comply with PRC laws, regulations and rules, we operate our Qunar.com website through our Principal VIE. In October 2006, through the WFOE, we entered into certain contractual arrangements with our Principal VIE and its shareholders through which we obtained effective control over the operations of our Principal VIE.

 

Since 2006, we have completed various rounds of equity financing. In October 2009, we effected a 10-for-1 share split for all of the shares in our authorized share capital at the time. As a result, the par value of the shares was changed to US$0.001 per share. Unless otherwise noted, all share information and per share data included in this annual report and accompanying financial statements have been adjusted to reflect this share split and change in par value.

 

From 2006 to 2007, we issued and sold a total of 26,513,257 Series A preferred shares to several investors for an aggregate consideration of US$2.5 million. From 2007 to 2009, we issued and sold a total of 24,828,360 Series B preferred shares to a number of investors for an aggregate consideration of US$8.4 million. From 2009 to 2010, we issued and sold a total of 11,750,990 Series C preferred shares for an aggregate consideration of US$14.0 million.

 

In July 2011, we entered into an agreement with Baidu Holdings Limited, a wholly-owned subsidiary and the investment vehicle of Baidu, Inc., a Cayman Islands company listed on the NASDAQ Global Select Market. Pursuant to the agreement, Baidu paid US$306 million to acquire 181,402,116 of our ordinary shares and became our majority shareholder. We continued to operate independently after the transaction. In connection with the Baidu Transaction, we and Baidu also entered into a series of agreements regarding the share conversion and restructuring of arrangements for our Principal VIE, our business cooperation with Baidu, as well as Baidu’s rights as our shareholder.

 

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In March 2013, we issued and sold a total of 21,662,296 ordinary shares to several investors, including Baidu Holdings Limited, for US$57.0 million pursuant to a share purchase agreement. The shares are subject to the investors’ rights agreement (as amended), the voting agreement (as amended) and the transfer of shares agreement (as amended) that we entered into in connection with our transactions with Baidu.

 

In November 2013, we completed an initial public offering of 12,777,650 ADSs (including the ADSs sold in connection with the over-allotment offering), representing 38,332,950 Class B ordinary shares. On November 1, 2013, our ADSs were listed on The NASDAQ Global Market under the symbol “QUNR.” In conjunction with, and subject to, the completion of the offering, we issued and sold 1,000,000 Class B ordinary shares to Jaguarundi Partners, LLC, or Jaguarundi, a company incorporated in the State of Delaware, in November 2013.

 

Our principal executive offices are located at 17th Floor, Viva Plaza, Building 18, Yard 29, Suzhou Street, Haidian District, Beijing, People’s Republic of China. Our telephone number at this address is +86 10 5760 3000. Our registered office in the Cayman Islands is located at Maples Corporate Services Limited, PO Box 309, Ugland House, Grand Cayman, KY1-1104 Cayman Islands.

 

B.                                    BUSINESS OVERVIEW

 

Overview

 

We are evolving the way people travel in a world increasingly enabled by technology. Qunar means “where to go” in Mandarin Chinese. As the leading mobile and online commerce platform for travel in China, we are committed to building a travel ecosystem serving the entire travel industry value chain.

 

The travel industry in China is undergoing rapid growth as the volume of leisure travel increases and demand for travel products grows dramatically. At the same time, the penetration of online travel remains relatively low in China and the industry remains fragmented, which made the distribution of travel products and services inefficient. Consumers want effective means to find the most relevant and best valued travel products among the growing range of potential choices. In addition, they also increasingly seek secure and convenient means to complete travel transactions and receive services online, particularly on mobile devices. On the other hand, many travel service providers lack the resources to efficiently market to travelers and to sell their products online.

 

We address these specific needs of Chinese travelers and travel service providers by efficiently matching industry supply and demand through our proprietary technologies. Our unique value propositions to our users and our customers enable us to create a strong network effect whereby an increasing number of users attract more and better commercial arrangements with travel service providers which, in turn, attracts even more users to our platform. We offer a range of travel products including flights, hotels, vacations packages, attraction tickets and other travel related offerings. The breadth of product selection on our platform provides a one-stop solution for users to purchase travel products across different verticals.

 

Our robust mobile platform enables us to offer an uniquely positive user experience in the travel industry. We have been at the forefront of the mobile shift in the industry and we have observed that mobile users stay active with us for a long period of time. The longer they stay with us, the more frequently they complete transactions on our platform. The behaviors of our mobile users, especially in the mobile era where users prefer to have all transactions completed through one single mobile application, has enabled us to cross-sell many different categories of our travel products. This engaged and loyal mobile user base, combined with our ability to continuously expand our product offerings has enabled us to attract even more active users, increase user engagement and further enhance a virtuous network effect. In 2014, mobile contributed 40.3% of our total revenue, 40.5% of our flights tickets sold and 56.4% of our hotel room nights stayed. These percentage metrics have also been consistently increasing quarter over quarter in 2014.

 

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We are a technology-driven company. We have leveraged our technology capabilities to create a number of innovative applications including:

 

·                  Mobile.  We have developed Qunar Travel, our powerful proprietary mobile application to make travel convenient and accessible for China’s fast growing mobile population. Qunar Travel enables our users to search for and purchase travel products with ease, and enables us to deliver timely user and customer services and build a vibrant online travel community.

 

·                  SaaSLaunched in 2010, our SaaS system provides an online presence for over 240,000 travel service providers. Our SaaS system provides us direct access to large volumes of travel product data and enables transaction processing within our platform.  The early implementation of our SaaS system has allowed us to transition into the mobile age smoothly by providing the data infrastructure to complete transactions entirely within our own platform and avoiding the technical difficulties of redirecting our users out of our mobile applications to third-party applications or mobile websites.

 

·                  Search. Our search engine provides real-time, comprehensive and accurate travel products information directly sourced from travel service providers and through our SaaS platform.

 

Our proprietary technologies enable us to provide more efficient services and accelerate our network effect. Building upon our technology strength, we strive to provide a comprehensive transaction platform for every Chinese traveler and travel service provider.  Going forward, technology will continue to support the scalable growth of our business through automation while maintaining controlled personnel growth.

 

For our customers, we provide the infrastructure for them to offer travel products and services to Chinese travelers either directly on our platform or through our search results. Our customers include Flight TSPs, airlines, independent hotels, OTAs, insurance service providers and others. With our fully integrated SaaS system, we improve not only our own but also the entire China travel industry’s operating efficiency.  The access to travel product data on our SaaS system enhances the quality of our search results and attracts more users to our platform, thereby benefiting our customers.

 

For our users, we offer them an open platform for flight tickets and other travel products, which is highly integrated with third-party travel service providers along the distribution chain. In 2014, we were the largest retail flight distribution platform in China with the fastest growth rate among leading players. We also operate a direct hotel network, which is the largest in China as of December 31, 2014, focused on all segments of the hotel industry.  Our direct hotel network was built in less than one year and covered over 237,000 hotels at the end of 2014. We also offer a large selection of over 500,000 vacation packages from more than 3,700 suppliers at the end of 2014.  By integrating this vast array of travel products into our platform we are able to offer the most comprehensive selection of relevant travel products and the most convenient means to complete desired transactions to enhance user experience. Our ability to offer a wide array of products for each of our business lines and within each product category has helped us build a large and active user base and in turn successfully created a vibrant online travel community.

 

For the fiscal year ended December 31, 2014, our total revenue grew 106.5% year over year and our gross merchandise value (excluding those generated by our investee companies), or GMV, was RMB83 billion, ranking us among the top five consumer platforms in any category in China in terms of transaction value. Our revenues were RMB501.7 million, RMB850.9 million and RMB 1,756.8 million (US$283.1 million) in 2012, 2013 and 2014, respectively. We recorded net losses of RMB91.1 million, RMB187.3 million and RMB1,846.9 million (US$297.7 million) in 2012, 2013 and 2014, respectively. Excluding certain items such as contract termination loss provision resulted from a one-off event, and non-cash charges, including share-based compensation expenses, non-cash expenses relating to free user traffic contributed by Baidu and online marketing expenses incurred in connection with the Baidu Zhixin Cooperation whose impact we do not consider indicative of the performance of our business, our adjusted net loss were RMB57.3 million, RMB117.7 million and RMB812.8 million (US$131.0 million) and adjusted operating loss were RMB41.8 million, RMB83.9 million and RMB810.7 million (US$130.7 million) in 2012, 2013 and 2014, respectively.

 

Our Business Lines

 

Our main lines of business include flight tickets, hotels, vacation packages and attraction tickets. We also offer display advertising, train tickets, car services, smart lodging and other services.

 

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Our ability to offer travel products across multiple verticals and to satisfy users’ strong preference to complete multiple transactions within a single mobile application is essential to our success and had enabled us to achieve user loyalty and stickiness, which in turn attracts more customers. The competitive take rates we charge our customers across these multiple verticals enable us to offer our users the best valued travel products that further enhance our attractiveness to our customers.

 

Flight tickets

 

The supply chain for flight tickets in China is highly fragmented. There are a significant number of flight ticket wholesalers and distributors along the distribution chain across different geographical regions in China. Airlines sell the majority of their flight tickets through these wholesalers and distributors. Together with OTAs and traditional travel agencies, there are numerous channels for flight ticket sales and each channel has its own process and policies. Service quality varies and most importantly, pricing of flight tickets through different channels lacks transparency. Consumers typically need to go through various channels to find the best price or the best-value deals they are looking for.

 

Leveraging our proprietary technologies and an open platform, we present our users who shop for flight tickets with comprehensive, accurate, and real-time schedule, pricing and availability information from a great number of Flight TSPs on one centralized, highly interactive user interface on our mobile application and website. Our flight ticket platform is highly integrated with the backend system of major flight ticket wholesalers and distributors, thus making the flight ticket information we displayed to the user more transparent, accurate and update-to-date. Once a user enters an itinerary, our proprietary search technology quickly displays price and availability information of matching flights based on information retrieved from GDS providers, various airlines and OTAs many of which are hosted on our SaaS system. Users can then click a particular result and either complete the flight ticket purchase transaction directly on our platform or be redirected to a Flight TSP’s website for further actions.

 

Our automated system provides instant confirmation of booking, rescheduling and cancellation for a majority of our flight ticket transactions. We also offer unified payment processing, itinerary printing and other ancillary services to improve our user experience.

 

In addition to flight tickets wholesalers and distributors, we also work directly with all major airlines in China. Our users can access their flight and flight ticket sales information directly on our mobile platform and on our website and complete purchase transaction directly on our platform. For the fiscal year 2014, about 90% of our user purchases were completed on our platform.

 

Furthermore, we started our yield management services for airlines in 2014 and now have more than ten regional airlines utilizing such services. Using our proprietary yield management tools, we assist these airlines in optimizing their sales of flight tickets to maximize revenue that can be generated from limited number of seats.

 

We were China’s largest flight tickets distribution platform in 2014, with a market share of over 20% in 2014 in terms of transaction volume based on the total flight volume published by Civil Aviation Administration of China. We believe we have the fastest growth rate among the leading players in China, and we continue to grow at a sustained and rapid pace. International flight tickets sales volume through our platform also grew significantly in 2014, with a year-over-year increase of around four times in transaction volume. We are also expanding our integration with B2B distribution platforms to further improve customer service and to improve user experience. We also plan to continue to enhance our automated transaction and service system to make the entire supply chain work more efficiently.

 

For the year of 2014, our flight ticket volume grew 64.0% compared to 2013. Our total transportation ticket volume, which includes flight tickets, train and bus tickets and other ground transportation, more than doubled year-over-year in 2014.

 

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Hotels

 

China’s hotel industry is highly fragmented with over 300,000 hotels across China. Other than a few high-end hotel groups and budget hotel chains, the majority of China’s mass market hotels as well as 4- and 5- star hotels are independently operated and managed. Many hotels had very limited or no online presence previously. The overall online penetration of China’s hotel industry is still very low and overall hotel occupancy level is also low. To efficiently match the demand of Chinese travelers with the supply of hotels presents great challenges and great opportunities for us.

 

Hotel direct became the majority of our hotel business in terms of transaction volume and revenue in the fourth quarter of 2014. In our hotel direct program, we have direct commercial relationships with hotels and offer consumers hotel products as an online agent. We developed the infrastructure for our hotel direct business from scratch in 2014. With it, our hotel business has quickly evolved from a meta-search model into primarily a direct model. Given that most of China’s hundreds of thousands of hotels are independent hotels previously not accessible online, we believe that the hotel direct model is the best way to bridge the needs between hotels and Chinese travelers. With our hotel direct program, many hotels that are previously offline were offered an opportunity to display and distribute their rooms through our mobile and web platform using a centralized and highly interactive user interface. Our powerful and convenient mobile platform and SaaS system also enables hotel owners and managers to manage their hotel operation such as confirmation of availability and rescheduling anywhere and anytime via multiple verticals, such as over the phone and through websites, interactive voice response services, short messages or instant messaging services. With a highly efficient product sourcing team assisted by our proprietary CRM system, our direct hotel network now covers over 237,000 hotels as of the end of 2014, the largest among online travel providers in China as of December 31, 2014, and the number continues to increase. Our hotel direct business covers a wide range of hotels from four- and five- star upscale hotels to mass-market hotels to family run and small boutique hotels. We have also entered into alliance agreements with 22 global hotel chains in the first quarter of 2015 to further expand our services to cover high-end luxury hotels and the international market. Since the fourth quarter of 2014, we have also started to take limited inventory risk for hotel rooms to ensure supply for our users for certain popular destinations and during peak holiday seasons.

 

Our hotel platform also covers online hotel room distributors, wholesalers and global hotel OTAs. Our extensive hotel network allows users to review and compare price, availability and other information of hotels from such hotel service providers.

 

We offer different hotel products to consumers, including pay-upon-arrival, prepay, group-buying, last- minute-sale and etc. Such diverse choices of hotel products offer our users the opportunity to find the best combination of service and price to satisfy their different travel needs and offer hotels better ways to manage the yields of their room night inventory. We also work with hotels to get guaranteed allotment to ensure the availability and timely confirmation of rooms to our users. Our ability to offer diverse hotel products helps us navigate hotel supply-demand seasonality and capture market share throughout the year. The number of hotel room nights stayed under guaranteed allotments increased from nil in 2013 to accounting for the majority of our total hotel room nights stayed in the second half of 2014 as a result of the expansion of our direct hotel network and our better monitor and management of the supply chain.

 

We publish reviews written by our users and contracted hotel expert reviewers to help consumers making transaction decisions and to foster an online travel community to further promote our services. With an average of over 2 million reviews uploaded in each of the last two quarters of 2014, we believe we have one of the most comprehensive and up-to-date user reviews in the industry. With the vast majority of the reviews written by users who finished their stays recently and directly uploaded through their mobile devices, the high quality and timeliness of the reviews on our platform creates transparency and drives hotel-booking volume. As of December 31, 2014, our platform featured over 40,000 hotel expert reviews and over 7.4 million user generated reviews.

 

We have the fastest growing hotel business in China in terms of both room nights stayed and revenues generated. Our four- and five- star hotels business also grow rapidly in 2014 and volume contribution from this segment rose to around 30% of our total hotel room nights stayed in the fourth quarter of 2014.

 

Going forward, we will continue to focus on adding more hotels to our network and more products for each hotel, continue to drive more transactions by delivering the best values to our users in the most efficient way. With savings generated from efficiency improvement and integration along the supply chain, and better customer services through our advanced technology, we intend to further drive the rapid expansion of our hotel business.

 

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For the full year of 2014, our total hotel room nights stayed grew 98.1% compared to 2013.

 

Vacation packages and tourist attraction tickets

 

Our vacation package business enables users to find vacation packages offered by local tour agencies and OTAs. Users can search for vacation packages by destination or vacation theme. Once a destination or vacation theme is selected, users can easily refine their vacation package search results by various factors such as date, price range, vacation length, tour guide option, and special features. As part of our efforts to enhance user experience, we provide informative destination guide and travel tips along with the vacation package search results. As of December 31, 2014, our platform featured over half a million vacation package products. Outbound vacation business is also growing rapidly and more than 40% of the vacation packages GMV completed on our platform in 2014 was for outbound trips.

 

We became a leading player in vacation package business in 2014, our first full year in this business line. Our total GMV in vacation packages and attraction tickets increased quickly and reached RMB2.4 billion in 2014. The large number of natural user traffic generated from our more mature flights and hotels business lines presented significant cross-selling opportunities that enabled us to achieve such rapid growth.

 

We announced an equity investment in Travelling Bestone, one of the largest offline B2B vacation packages distribution channels in China, in the first quarter of 2015. Travelling Bestone has over 3,000 franchise stores and points of sales across China. We will work closely with Travelling Bestone in inventory sharing, mobile application development and onsite promotions. With its strong relationship along the supply chain and offline traffic, we believe our investment and business cooperation with Travelling Bestone will provide an additional boost to our vacation packages business starting from the second half of 2015.

 

For our tourist attraction ticket business, we launched a designated channel on our mobile and website platform in March 2013 to enable our users to make a variety of purchases for tourist attractions, including entrance tickets and tickets for recreational programs. Through this channel, we strive to provide a convenient, secure and inexpensive means for our users to access travel products at a large number of tourist attractions nationwide and globally.

 

Display advertising services

 

Our display advertising services consist of providing banner and other display advertisements on our platforms. Our display advertising customers include travel service providers as well as domestic and international non-travel-related brands hoping to reach the demographics reflected in our large user base. We exercise discretion in accepting display advertisers so that the displayed contents are compatible with the themes and functions of our platform. We implement advanced data mining of user demographics, search parameters and search history, so as to enable intelligent and efficient deployment of display advertisements.

 

Other business lines

 

We also offer our users certain other travel products, primarily train tickets, car services, tour guides and smart lodging. We source those travel products through joint efforts of our and our travel service providers’ workforces.

 

Train tickets. We began offering train ticket search service in December 2011. Our users can locate and compare information for purchasing train tickets in a manner similar to searching for flight tickets. We provide added value to users searching for train tickets by presenting information that may be helpful to them, including flight tickets with the same departure and destination locations that are within the same price range as the train ticket, budget hotels near train stations, certain group-buying travel products available at both locations, as well as our proprietary route planning tool if there is no direct route between the starting and the destination stations.

 

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Car services. We provide designated car services for pickup and drop off to and from airports, train stations and tourist attraction sites as well as other travel-related ground transportation services. As of March 31, 2015, our car service covers more than 155 cities in China.

 

Tour guides. We provide tour guides and guidebooks for our users, which help our users better plan their itineraries, make advanced preparations, enjoy their trips and share their travel experiences with others. Our tour guides also enable our users to browse on their mobile devices other users’ itineraries as well as popular routes and attraction sites worldwide.

 

Smart lodging. We provide smart lodging services to match the demand of savvy Chinese travelers and social lodging inventories with different lodging options. We strive to find the best business model that suits the needs of Chinese travelers and lodging facility providers and is in the process of developing innovative ways to manage the inventory and the transaction process. Smart lodging services will be a useful supplement to our hotel business, an efficient solution to utilize existing social lodging inventories, and also a unique way for travelers looking for best value options or different and surprising travel experiences.

 

Our User Services

 

We provide our users with a comprehensive range of travel products and travel related information in order to deliver the best possible user experience. Our proprietary technologies help our users to search for and purchase travel products easily.  We endeavor to provide reliable service at every stage of the transaction process.

 

When users search for travel products on our platforms, we provide a broad selection of relevant choices to match the individual’s travel criteria and itinerary. To achieve this, each of our business lines is supported by real-time data from our large portfolio of travel service providers. For flights, our open platform is integrated with the systems of major flight ticket wholesalers and distributors. We are the largest B2C flight distribution platform in China.  For hotels, we offer comprehensive access to all segments of the hotel industry through our direct network, which is the largest in China as of December 31, 2014, and our platform network. We also offer a fast growing range of vacation packages and attraction tickets in addition to services for train tickets, car services, tour guides and smart lodging. The wide variety of our travel product offering allows for cross-selling of different products to conveniently satisfy the individual needs of our users.

 

We strive to achieve pricing leadership in our industry and provide greater value to our users. By leveraging our technology we are able to automate our business and enhance efficiency. As a result, we believe we are able to charge lower take rates than other major online travel B2C players, and, as demonstrated by our flight ticket business line, we are able to increase our take rate over time while still maintaining our price leadership for users. In addition, our recognized brand in the China travel industry and our large and growing volume of users has enabled us to source products from travel service providers at increasingly competitive prices. As we pass these savings on to our users, we are able to in turn attract even more users to our platform.

 

To ensure that our users are satisfied with the travel products they purchase from us and to improve our users’ experience we have implemented a number of initiatives to ensure quality and to provide reliable customer service.  We have a rigorous screening process for selecting our travel service providers to ensure quality and reliability prior to offering their products to our users. We also conduct ongoing monitoring and review of all travel service providers through our user service center, which consists of a team of employees dedicated to addressing user complaints and questions on a 24/7 basis. Furthermore, our powerful mobile platform enables our users to book, cancel or reschedule their travel itinerary anywhere and anytime, thereby providing users with greater control over their own transaction process.

 

“Users Comes First” is our guiding principle. We believe that all the measures we have adopted to enhance our users’ experience has resulted in increasing user loyalty. This is demonstrated by our cohort analysis of our mobile users. Over time, we have observed that mobile users stay active on our platform for a long period of time and they have increasing rates of transactions the longer they stay on our platform. The following table shows the growth of our web users, active web users, mobile users, and active mobile users for the periods indicated.

 

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For the 12-Month Period Ended

 

 

 

December 31,
2012

 

December 31,
2013

 

December 31,
2014

 

 

 

(in millions)

 

Web users

 

187.3

 

234.2

 

282.4

 

Active web users

 

29.7

 

32.9

 

29.7

 

Mobile users

 

21.9

 

53.8

 

99.4

 

Active mobile users

 

10.4

 

25.2

 

42.2

 

 

Our Technologies

 

We are a technology-driven company. Our open platform and proprietary technologies and system provide real-time, comprehensive and accurate travel products information directly sourced from travel service providers, connect our users to travel resources in China in the most efficient way, and enable us to readily scale our business while at the same time keep our cost and expense structure relatively fixed.

 

Our technologies facilitate user transactions and improve user experience. Our mobile platform enables our users to initiate and complete their travel purchase transactions anywhere and anytime. Our SaaS system hosts hundreds of thousands of independent hotels and other small travel service providers as well as established travel service providers which are willing to, despite their having own online presence, host their products and service offerings on our SaaS system. Our information aggregation, search and extraction capabilities are at the core of our technological competence. Our software engineers, product managers and industry experts collaborate closely to drive our technology and product developments. We strive to provide a one-stop transaction and service platform for every Chinese traveler and to provide the technology backbone for the entire travel industry in China.

 

Our Mobile Platform

 

Our robust mobile platform enables us to drive transactions volume, service our users and our customers and build an online travel community, while effectively managing our own product sourcing efforts with our proprietary mobile CRM system. We offer a wide variety of travel products encompassing flight tickets, hotels, vacation packages and attraction tickets as our main business lines, and within each product category, a broad range of selections. The comprehensive portfolio of travel product choices and significant amount information on our centralized mobile platform allow for effective cross-selling. In addition, the unique identifying characteristics of mobile devices and mobile applications, assisted by our proprietary technologies, allow for personalization of services on our mobile platform.

 

Mobile has become increasingly important for our business and the numbers of our mobile users and transactions performed on our mobile platform have been rapidly increasing. We started to monetize our mobile platform in June 2012 and attracted 99.4 million mobile users in 2014. Our active mobile users have also grown rapidly from 25.2 million in 2013 to 42.2 million in 2014. Qunar Travel, our powerful proprietary mobile application for smartphones and tablets with iOS, Android and Windows Phone operating systems, powers services across all our business lines.

 

We continue to improve the location-based and personalized product and services offerings on Qunar Travel, such as personalized product ranking based on user’s search and transaction history, push of personalized coupons and promotions, and have optimized many other features to make our mobile user experiences better within the bandwidth constraints and hardware limitations of mobile devices. For example, we believe that price is the preferred sorting criterion for most of our users, and by setting price as the default ranking criterion for search results on Qunar Travel, we save data usage for most of our users. We also reduce picture sizes, compress other data and cache data for more effective transmission to mobile devices.

 

Qunar Travel has gained great popularity since its first launch on Android mobile devices in July 2010 and on iOS mobile devices in December 2010. According to iResearch, there had been approximately 750 million installations of Qunar Travel as of December 31, 2014, ranking Qunar Travel first among all surveyed travel applications.

 

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Mobile has become a critical factor driving our sustained and rapid growth. In the fourth quarter of 2014, our mobile platform accounted for about half of our total revenue, a fivefold increase on a year-on-year basis. We are one of the few companies in the China Internet space that have been able to monetize the mobile platform well. In terms of transaction volume, our mobile platform accounted for 46.2% of total flight tickets and 69.9% of total hotel room nights stayed for the fourth quarter of 2014. We believe such a high percentage of volume transacted on a mobile platform is among the highest in the online travel industry globally. We expect this trend to continue.

 

SaaS

 

Airlines, OTAs and major hotel brands usually have their own online presence, from which we directly retrieve information. Most of our other travel service providers, such as independent hotels, local travel agencies and tourist attractions, tend to have limited or no online presence of their own. Our SaaS system enables these travel service providers to set up a functional mobile and online reservation system and improve their services based on our standards. By doing so, we strive to provide a centralized, standardized and popular mobile and online commerce platform for our travel service providers to connect with our large user base through a unified user interface. We also provide a series of illustrative online training programs and centralized technical support to travel service providers who use our SaaS system. We provide our SaaS system and related services only to travel service providers who use our P4P services and we do not charge for our SaaS system and the related services. As of December 31, 2014, we had over 240,000 travel service providers on our SaaS system, among which approximately 230,000 were direct-signed hotels.

 

We decided to develop our SaaS system in 2010 in anticipation of the industry shift from web to mobile. From an user experience standpoint, it is burdensome for a mobile application user to be redirected out of the mobile application to a travel service providers separate mobile application or mobile site in order to complete a transaction. With the SaaS system that helps users to complete the entire transaction on our platform, we were able to significantly improve user experience as well as transaction efficiency. Our SaaS system made possible our successful transition from web to mobile.

 

Our proprietary and highly scalable SaaS system uses distributed software and high-performance parallel computing technologies to support our operations and future expansion. For the thousands of travel service providers on our SaaS system, we optimize their usage of bandwidth and computing capacities, thereby enabling them to deliver consistent, quality services to users. We apply various data compression, storage and retrieval technologies in order to optimize the performance of our SaaS system. We use the most modern technology available to constantly monitor and improve the performance of our SaaS system.

 

Our current SaaS system covers all products and services offered on our mobile platform and has become increasingly dominant in the provision of services to our users. As a result, the vast majority of transactions are completed on our own SaaS platform, rather than by directing the users to our customers’ websites. SaaS system allows us to monitor the entire transaction process and enable better integration of various information from the travel industry supply chain, thus making the entire China travel value chain more efficient. By using SaaS system, we are able to set our CPC and CPS pricing based on the information collected from transactions completed on our SaaS system so as to enable our customers to evaluate effectiveness of marketing channels. In the meantime, more accurate data collection and transaction estimation are made possible through our SaaS system. As a result, we started using two metrics, i.e., Total Estimated Flight Ticket, or TEFT, and Total Estimated Hotel Room Night Stayed volume, or TEHR, to measure our results of operation. See “Item 5. Operating and Financial Review and Prospects—A. Operating Results—Revenues—P4P services.” These metrics are essentially benchmarked against SaaS by using volumes sold on SaaS to estimate total volume sold, assuming that the conversion rate for clicks into purchases on its SaaS system is the same as the overall conversion rate.

 

Search technologies

 

Real-Time, Massive Data Search. Our search capabilities are the core of our competitive advantage. We strive to ensure the accuracy, relevance and comprehensiveness of our search results as well as the speedy delivery of information to users. Our technology fulfills the challenging task of searching, retrieving, filtering and prioritizing massive amounts of real-time information stored on tens of thousands of databases and websites, and instantly presenting it to our users in one simple, clean and intuitive interface. In 2014, we processed approximately 4.65 billion web and mobile search queries for flight tickets and hotels. Our real-time, massive data search implements the following advanced technologies:

 

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·                  Data caching and indexing. We extract targeted data from other websites through either data feeds or direct scraping of web contents. Our search capabilities include complex data caching and machine-learning technologies. We maintain a data pool of billions of price data points on flight tickets, hotels and other travel products. Each datum in the data pool bears a time stamp. When a user sends a search query, our search engine compares the query with information in the data pool to locate the relevant pricing and availability data. Once matching data are located, our system checks the time stamp to see whether each datum is up-to-date. All of these confirmations happen simultaneously. We apply an intelligent and dynamic “shelf life” analytic algorithm for different data based on various factors such as data source, flight or hotel specifics and booking lead time. This intelligent and dynamic “shelf life” analytic algorithm is based on our constant optimization of data accuracy and search efficiency resulting from billions of search queries. If we decide a datum is not up-to-date, our data extracting software re-extracts the datum from the source immediately to refresh it.

 

·                  Dynamic data display. Our result-ranking engine, subject to our default ranking policy which prioritizes service quality and price competitiveness, presents the most up-to-date data to the user first, followed by the refreshed data.

 

·                  Data accuracy check. When a user clicks on a desired search result, we direct the user’s click to the web page that supplies the travel product information shown in our search result. In the meantime, our accuracy monitoring software extracts fresh data from that web page again, and compares it against our data pool to check whether the earlier data are still accurate after the lapse of time between the result display and the user’s actual visit to the source website of the data. This double-verification function also enables our accuracy software to evaluate whether our data’s “shelf life” is set up appropriately. This type of automatic monitoring constantly optimizes our data accuracy.

 

Personalization and smart call center

 

During the third quarter of 2014, we launched new functionalities such as personalization and smart call center technologies to, through automation techniques on both the consumers and merchants’ sides, simultaneously improve service quality and reduce the need for labor. Our innovations allowed us to replace traditional OTAs’ large-sized call centers.

 

Product developments

 

We have an experienced team of over 2,500 engineers and product managers in our product development department as of December 31, 2014, among which a significant portion were dedicated to the development of our mobile technologies and our hotel direct program. Our product development team is centralized in our corporate headquarters in Beijing.

 

Product sourcing

 

We have a dedicated product sourcing team of close to 2,400 employees in our destinations business unit as of December 31, 2014, among which a vast majority are dedicated to hotel sourcing for our hotel direct business. Our product sourcing team personnel is located across China.

 

Sales and marketing

 

We engage in online and offline marketing. We host online and offline marketing campaigns to increase our user traffics. We participate in auction-based online P4P services offered by major search engines to acquire user traffic. We also have dedicated resources in mobile marketing campaigns to increase downloads and activation of our mobile applications including participation in a mobile app store, pre-installation agreements with mobile manufacturers and other promotions through our own mobile applications. We also believe that our user base has grown through “word-of-mouth” recommendations by users who have enjoyed our quality products and services. We continuously improve our user experience as we believe that recommendations by satisfied users make the most effective and cost-efficient marketing.

 

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As mobile continues to play a more important role in our business, we have been increasing our marketing expenditure on mobile platform and started reducing traditional PC SEM expenditure. We plan to continue to invest more in mobile channels as mobile becomes our main growth driver. In addition, our technological capability allows us to closely monitor our return on investment, for each of the marketing channels as we continue to add new users and scale our business, especially for our mobile platform.

 

We also book under sales and marketing expenses the headcount related expenses of our operational staff, including employees for our call center, photographers and editors. As of December 31, 2014, total headcount for these staff, which are located in different offices nationwide, is approximately 1,900.

 

Competition

 

The online travel industry in China is new, rapidly evolving and highly competitive. We compete to attract users to our mobile applications and websites. We also compete to attract travel service providers to participate in our P4P services and enter into other online marketing agreements with us. Due to our unique business model as a travel commerce platform, we maintain a cooperative-competitive relationship with some of our competitors, as they are also our travel service providers or even customers. As we entered into the hotel direct business, local tours, hotel group-buying, attraction tickets, car and other transportation services, we also compete with hotel OTAs nationwide as well as other local service providers. Please see “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—Competition could adversely affect us” for more details.

 

Competition for Users

 

We compete for user traffic with hotels, airlines, OTAs, general search engines and other travel information websites. Our major competitors include major travel OTAs in China and e-commerce platforms. In addition, we also compete for user traffic with airlines, hotels, OTAs, local service providers and other travel service providers as they are increasingly focusing on attracting users directly to their own platforms.

 

Competition with and for OTAs

 

As we entered into the hotel direct and other businesses, we began directly competing with OTAs in developing commercial relationships with hotels, and in offering consumers hotel products directly. On the other hand, OTAs are our customers, we also compete for them to become our customers.

 

Competition for Mobile Marketing and Promotional Channels

 

On mobile, we compete with all major players in different travel industry verticals and other e-commerce platforms for application store placement, pre-installation and application downloads.

 

Intellectual Property

 

We rely on a combination of patent, trademark, copyright and trade secret protection laws in the PRC and other jurisdictions, as well as confidentiality procedures and contractual provisions with our employees and other parties, to protect our intellectual property and our brand. As of March 31, 2015, we have 81 registered trademarks in the PRC and overseas, including “Qunar,” “去哪儿” “Qunar.com and camel image,” and “Qunar.com 去哪儿 and camel image.” We have 44 software copyright registrations, three logo copyright registrations in the PRC, and 55 domain names including qunar.com and qua.com as of March 31, 2015. We have also applied for 36 patents and have been granted nine.

 

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Government Regulations

 

Regulations on Value-Added Telecommunications Services

 

On September 25, 2000, the State Council promulgated the Telecommunications Regulations, or the Telecom Regulations, which were revised on July 29, 2014. The Telecom Regulations draw a distinction between “basic telecommunication services” and “value-added telecommunication services.” Internet content provision services, or ICP services, is a subcategory of value-added telecommunications services. Under the Telecom Regulations, commercial operators of value-added telecommunications services must first obtain an operating license from the MIIT or its provincial-level counterparts.

 

On September 25, 2000, the State Council issued the Administrative Measures on Internet Information Services, or the Internet Measures, which, in particular, regulate ICP services. According to the Internet Measures, commercial ICP service operators must obtain an ICP license from the relevant government authorities before engaging in any commercial ICP operations within the PRC. In November 2000, the MIIT promulgated the Administrative Measures on Internet Electronic Messaging Services, or the BBS Measures, which require the operator to obtain a special BBS Permit from the local bureau of MIIT prior to engaging in BBS services. BBS services include electronic bulletin boards, electronic forums, message boards and chat rooms. On September 23, 2014, the BBS Measures were repealed by a decision of MIIT, and therefore the operator is currently not required to obtain such special BBS permit for operating BBS services.

 

On December 26, 2001, the MIIT promulgated the Administrative Measures on Telecommunications Business Operating Licenses, or the Telecom License Measures. On March 5, 2009, the MIIT issued a revision of the Telecom License Measures, which took effect on April 10, 2009. The Telecom License Measures set forth the types of licenses required to operate value-added telecommunications services and the qualifications and procedures for obtaining such licenses. For example, an information services operator providing value-added services in multiple provinces is required to obtain an inter-regional license, whereas an information services operator providing the same services in one province is required to obtain a local license.

 

To comply with these PRC laws and regulations, our ICP operators, our Principal VIE and its subsidiary Beijing Jiaxin Haoyuan Information Technology Company Ltd., or Jiaxin Haoyuan, hold ICP licenses issued by the Beijing Telecommunications Administration. Moreover, our Principal VIE also possesses an inter-regional Value-Added Telecommunications Services Operating License for provision of value-added telecommunication services nationwide.

 

Restrictions on Foreign Ownership in Value-Added Telecommunications Services

 

According to the Provisions on Administration of Foreign Invested Telecommunications Enterprises promulgated by the State Council on December 11, 2001 and amended on September 10, 2008, the total foreign equity ownership in a value-added telecommunications service provider must not exceed 50%. Moreover, for a foreign investor to acquire any equity interest in a value-added telecommunications business in China, it must demonstrate a good track record and experience in operating value-added telecommunications services. Foreign investors that meet these requirements must obtain approvals from the MIIT and the Ministry of Commerce or their authorized local branches, and the relevant approval application process usually takes six to nine months. Due to the limitation of foreign investment in value-added telecommunications services companies that provide internet information services, we would be prohibited from acquiring any equity interest in our Principal VIE without diverting management attention and resources. In addition, we believe that our contractual arrangements with our VIEs and their individual shareholders provide us with sufficient and effective control over our VIEs. Accordingly, we currently do not plan to acquire any equity interest in our VIEs.

 

On July 13, 2006, the MIIT issued the Notice of the MIIT on Intensifying the Administration of Foreign Investment in Value-added Telecommunications Services, or the MIIT Notice. The MIIT Notice prohibits domestic telecommunications service providers from leasing, transferring or selling telecommunications business operating licenses to any foreign investor in any form, or providing any resources, sites or facilities to any foreign investor for their illegal operation of a telecommunications business in China. According to the MIIT Notice, either the holder of a value-added telecommunications business operating license or its shareholders must legally own the domain names and trademarks used by such license holders in their provision of value-added telecommunications services. The MIIT Notice further requires each license holder to have the necessary facilities, including servers, for its approved business operations and to maintain such facilities in the regions covered by its license. In addition, all value-added telecommunications service providers are required to maintain network and Internet security in accordance with the standards set forth in the relevant PRC regulations. If a license holder fails to comply with the requirements in the MIIT Notice and cure such non-compliance, the MIIT or its local counterparts have the discretion to take measures against such license holders, including revoking their value-added telecommunications business operating licenses.

 

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To comply with these PRC regulations, we operate our mobile application and websites through our Principal VIE and Jiaxin Haoyuan. Our Principal VIE is currently 60% owned by the Baidu nominee and 40% owned by Mr. Chenchao (CC) Zhuang, both of whom are PRC citizens. Our Principal VIE holds an ICP license and a BBS Permit. Jiaxin Haoyuan is currently wholly owned by our Principal VIE and holds an ICP license and an inter-regional Value-Added Telecommunications Services Operating License for provision of value-added telecommunication services nationwide. Our Principal VIE owns the domain name and trademark related to its operations and the website (qunar.com). Jiaxin Haoyuan owns the domain name for its website jipiao007.com.

 

If, despite these precautions, the PRC government determines that we do not comply with applicable laws and regulations, it can revoke our business and operating licenses; require us to discontinue or restrict our operations, restrict our right to collect revenues; block our websites; require us to restructure our operations, including possibly the establishment or restructuring of a foreign-invested telecommunications enterprise, re-application for the necessary licenses, or relocation of our businesses, staff and assets; impose additional conditions or requirements with which we may not be able to comply; or take other regulatory or enforcement actions against us. See “Item 3. Key Information—D. Risk Factors—Risks Related to Our Corporate Structure—If the PRC government finds that the agreements that establish the structure for operating our businesses in China do not comply with PRC governmental restrictions on foreign investment in internet and other related businesses, or if these regulations or the interpretation of existing regulations change in the future, we could be subject to severe penalties or be forced to relinquish our interests in those operations.”

 

Regulations on Internet Content Services

 

National security considerations are an important factor in the regulation of Internet content in China. The National People’s Congress, the PRC’s national legislature, has enacted laws with respect to maintaining the security of Internet operations and internet content. According to these laws, as well as the Internet Measures, violators may be subject to penalties, including criminal sanctions, for Internet content that:

 

·                  opposes the fundamental principles stated in the PRC Constitution;

 

·                  compromises national security, divulges state secrets, subverts state power or damages national unity;

 

·                  harms the dignity or interests of the state;

 

·                  incites ethnic hatred or racial discrimination or damages inter-ethnic unity;

 

·                  undermines the PRC’s religious policy or propagates heretical teachings or feudal superstitions;

 

·                  disseminates rumors, disturbs social order or disrupts social stability;

 

·                  disseminates obscenity or pornography, encourages gambling, violence, murder or fear or incites the commission of a crime;

 

·                  insults or slanders a third party or infringes upon the lawful rights and interests of a third party; or

 

·                  is otherwise prohibited by law or administrative regulations.

 

ICP service operators are required to monitor their websites. They may not post or disseminate any content that falls within these prohibited categories and must remove any such content from their websites. The PRC government may shut down the websites of ICP license holders that violate any of the above-mentioned content restrictions, order them to suspend their operations, or revoke their ICP licenses.

 

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On February 4, 2015, the State Internet Information Office, a governmental agency authorized by the State Council to administer the content of internet information, promulgated the Administrative Provisions on Account Names of Internet Users, or the Account Names Provisions, which became effective as of March 1, 2015. The Account Name Provisions require internet service providers to authenticate registered users’ identity information and to commit to complying with the “seven basic requirements,” including observing the laws and regulations, upholding the socialist regime, protecting state interests and so on, as well as ensuring the authenticity of any information they provide. Relevant internet information service providers are responsible for the protection of users’ privacy, the consistency between user information such as account names and avatars and the requirements contemplated in the Account Names Provisions, making reports to the competent authorities regarding any violation of the Account Names Provisions and taking appropriate measures to stop any such violations, such as notifying the user to make corrections within a specified time and suspending or closing accounts in the event of continue non-compliance.

 

To comply with these PRC laws and regulations, we have adopted internal procedures to monitor content displayed on our platforms, including a team of employees dedicated to screening and monitoring content uploaded on our platforms and removing inappropriate or infringing content.

 

To the extent that PRC regulatory authorities find any content displayed on or through our platforms objectionable, they may require us to limit or eliminate the dissemination or availability of such content on our platforms s or impose penalties, including the revocation of our operating licenses or the suspension or shutdown of our online operations. In addition, the costs of compliance with these regulations may increase as the volume of content and number of users on our platforms increases. See “Item 3. Key Information—D. Risk Factors—Risks Related to Doing Business in the PRC—Regulation and censorship of information disseminated over the Internet in China may adversely affect our business and subject us to liability for information displayed on or linked to our platforms.”

 

Regulations on Information Security

 

Internet content in China is also regulated and restricted from a State security point of view. On December 28, 2000, the Standing Committee of the National People’s Congress enacted a Decision Regarding the Safeguarding of Internet Security, as amended on August 27, 2009, that makes it unlawful to: (i) gain improper entry into a computer or system of strategic importance; (ii) disseminate politically disruptive information; (iii) leak state secrets; (iv) spread false commercial information; or (v) infringe intellectual property rights.

 

On December 16, 1997, the Ministry of Public Security promulgated the Administrative Measures for the Security Protection of International Connections to Computer Information Network, prohibiting the use of the Internet in ways that, among other things, result in a leakage of state secrets or the distribution of socially destabilizing content. Socially destabilizing content includes any content that incites defiance or violations of PRC laws or regulations or subversion of the PRC government or its political system, spreads socially-disruptive rumors or involves cult activities, superstition, obscenities, pornography, gambling or violence. State secrets are defined broadly to include information concerning PRC’s national defense affairs, state affairs and other matters as determined by the PRC authorities.

 

On December 13, 2005, the Ministry of Public Security promulgated Provisions on Technological Measures for Internet Security Protection, or the Internet Protection Measures. The Internet Protection Measures require all ICP operators to keep records of certain information about their users (including user registration information, log-in and log-out times, IP addresses, content and time of posts by users) for at least 60 days and to submit the above information as required by laws and regulations. The ICP operators must regularly update information security systems for their websites with local public security authorities, and must also report any instances of public dissemination of prohibited content. If an ICP operator violates these measures, the PRC government may revoke its ICP license and shut down its websites.

 

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In addition, the State Secrecy Bureau has issued provisions authorizing the blocking of access to any website it deems to be leaking state secrets or failing to comply with the relevant legislation regarding the protection of state secrets.

 

Because our Principal VIE and Jiaxin Haoyuan are all ICP operators, we are subject to laws and regulations relating to information security. To comply with these laws and regulations, our Principal VIE, and Jiaxin Haoyuan have completed the mandatory security filing procedures with local public security authorities. We regularly update our information security and content-filtering systems based on any newly-issued content restrictions and maintain records of user information as required by relevant laws and regulations. We have also taken measures to delete or remove links to content that, to our knowledge, contains information that violates PRC laws and regulations.

 

If, despite the precautions, we fail to identify and prevent illegal or inappropriate content from being displayed on or through our platforms, we may be subject to liability. In addition, these laws and regulations are subject to interpretation by the relevant authorities and it may not be possible to determine in all cases what content could result in liability. To the extent that PRC regulatory authorities find any content displayed on or through our platforms objectionable, they may require us to limit or eliminate the dissemination or availability of such content or impose penalties, including the revocation of our operating licenses or the suspension or shutdown of our online operations. In addition, the costs of compliance with these regulations may increase as the volume of content and users on our platforms increase. See “Item 3. Key Information—D. Risk Factors—Risks Related to Doing Business in the PRC—Regulation and censorship of information disseminated over the Internet in China may adversely affect our business and subject us to liability for information displayed on or linked to our platforms.”

 

Regulations on Internet Privacy

 

The PRC Constitution states that PRC law protects the freedom and privacy of communications of citizens and prohibits infringement of such rights. In recent years, PRC government authorities have enacted legislation on internet use to protect personal information from any unauthorized disclosure. The PRC law does not prohibit ICP operators from collecting and analyzing personal information from their users. However, the Internet Measures prohibit an ICP operator from insulting or slandering a third party or infringing the lawful rights and interests of a third party. On December 29, 2011, the MIIT promulgated the Several Provisions on Regulating the Market Order of Internet Information Services, effective as of March 15, 2012. With regard to users’ personal data, it stipulates that ICP operators must not, without user consent, collect user information that can be used alone or in combination with other information to identify the user (defined as “User Personal Information”) and may not provide any such information to third parties without prior user consent. ICP operators may only collect User Personal Information necessary to provide their services and must expressly inform the users of the method, content and purpose of the collection and processing of such User Personal Information. In addition, an ICP operator may only use such User Personal Information for the stated purposes under the ICP operator’s scope of service. ICP operators are also required to ensure the proper security of User Personal Information and to take immediate remedial measures if User Personal Information is suspected to have been disclosed. If the consequences of any such disclosure are expected to be serious, ICP operators must immediately report the incident to the telecommunications regulatory authority and cooperate with the authorities in their investigations.

 

On December 28, 2012, the Standing Committee of the National People’s Congress of the PRC issued the Decision on Strengthening the Protection of Online Information, or the Decision. Most requirements under the Decision that are relevant to ICP operators are consistent with the requirements already established under the MIIT Provisions, as discussed above, though often more strict and broad. Under the Decision, if an ICP operator wishes to collect or use personal electronic information, it must do so in a legal and appropriate manner and may do so only if it is necessary for the services it provides. It must disclose the purpose, method and scope of any such collection or use and must seek consent from the relevant individuals. ICP operators are also required to publish their policies relating to information collection and use, to keep such information strictly confidential and to take technological and other measures to ensure the safety of such information. ICP operators are further prohibited from divulging, distorting or destroying any such personal electronic information or selling or providing such information to other parties. The Decision also requires that ICP operators providing information publishing services must collect from users their personal identification information, for registration. In very broad terms, the Decision provides that violators may face warnings, fines, confiscation of illegal gains, license revocations, filing cancellations and website closures.

 

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On July 16, 2013, MIIT issued the Order for the Protection of Telecommunication and Internet User Personal Information (the “Order”). Most requirements under the Order that are relevant to ICP operators are consistent with the requirements already established under the MIIT provisions as discussed above. Under the Order, these requirements are often more strict and have a wider scope. If an ICP operator wishes to collect or use personal information, it may do so only if such collection is necessary for the services it provides. Further, it must disclose to its users the purpose, method and scope of any such collection or use and must obtain consent from its users whose information is being collected or used. ICP operators are also required to establish and publish their rules relating to personal information collection or use, keep any collected information strictly confidential and take technological and other measures to maintain the security of such information. ICP operators are required to cease any collection or use of the user’s personal information and de-register the relevant user account when a given user stops using the relevant internet service. ICP operators are further prohibited from divulging, distorting or destroying any such personal information, or selling or providing such information unlawfully to other parties. In addition, if an ICP operator appoints an agent to undertake any marketing and technical services that involve the collection or use of personal information, the ICP operator is still required to supervise and manage the protection of the information. As to penalties, in very broad terms, the Order states that violators may face warnings, fines, disclosure to the public and, in the most severe cases, criminal liability.

 

To comply with these laws and regulations, we require our users to accept terms of services under which they agree to provide certain personal information to us, to have established information security systems protect user privacy and to have such information filed with the MIIT or its local branch as required. If our ICP operators violate PRC laws in this regard, the MIIT or its local bureaus may impose penalties and the ICP operators may be liable for damages caused to their users. See “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—Failure to protect confidential information of our users and network against security breaches could damage our reputation and substantially harm our business and results of operations.”

 

Regulations on Air-ticketing

 

The air-ticketing business is subject to the supervision of the China Aviation Transportation Association, or CATA, and its regional branches. Currently the principal regulations governing air-ticketing agencies in China are the Rules on Certification of Qualification for Civil Aviation Transport Sales Agencies (2006), issued by the CATA, which became effective on March 31, 2006 and revised on April 15, 2015. Under these rules, any company acting as an air-ticketing sale agency must obtain approval from the CATA. In addition, CATA issued the Supplementary Rules Regarding Sales via the Internet in 2008. These Supplementary Rules provide that, effective as of June 1, 2008, if an air-ticketing sales agency would like to engage in sales via the Internet, it must obtain an ICP license from the local counterpart of the MIIT and must complete a commercial website registration with the AIC. On April 15, 2015, the CATA issued Measures for the Supervision and Administration of Civil Aviation Transport Sales Agency Enterprises (for Trial Implementation), effective as of April 15, 2015. These measures set forth principles and rules, supervision mechanisms and applicable punitive measures for civil aviation transport sales agency enterprises. On April 15, 2015, the CATA issued the Administrative Rules on Air Ticket Online Sales (for Trial Implementation) (the “Online Sales Rules”), effective as of April 15, 2015. The Online Sales Rules require an air-ticketing online sales agency to conduct filings with the CATA; agencies already engaged in the online sales businesses shall conduct filings with the CATA within one month from the Online Sales Rules taking effect.

 

We rely on Flight TSPs to provide travel products and services to our users. Although we request that Flight TSPs provide their licenses or permits to us before entering into agreements with them, we cannot ensure that every Flight TSP that is engaged in the air ticketing sales agency service obtained, and maintained, all necessary permits, or that it has conducted filings with the CATA as required. See “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—We may not be able to adequately monitor or ensure the service quality of our travel service providers and increases in user dissatisfaction with our travel service providers could materially and adversely affect our results of operations.”

 

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Regulations on Hotel Operation

 

In November 1987, the Ministry of Public Security issued the Measures for the Control of Security in the Hotel Industry, and in June 2004, the State Council promulgated the Decision of the State Council on Establishing Administrative License for the Administrative Examination and Approval Items Really Necessary to Be Retained. Under these two regulations, anyone who applies to operate a hotel is subject to examination and approval by the local public security authority and must obtain a special industry license. The Measures for the Control of Security in the Hotel Industry impose certain security control obligations on the operators. For example, the hotel must examine the identification card of any guest to whom accommodation is provided and make an accurate registration. The hotel must also report to the local public security authority if it discovers anyone violating the law or behaving suspiciously, or an offender wanted by the public security authority.

 

In April 1987, the State Council promulgated the Public Area Hygiene Administration Regulation, which requires hotels to obtain a public area hygiene license before opening for business. In March 2011, the Ministry of Health promulgated the Implementation Rules of the Public Area Hygiene Administration Regulation which, starting from May 1, 2011, require hotel operators to establish a hygiene administration system and keep records of hygiene administration. In February 2009, the Standing Committee of the National People’s Congress, or the SCNPC, enacted the PRC Law on Food Safety, which requires any hotel that provides food to obtain a food service license; any food hygiene license which had been obtained prior to June 1, 2009 will be replaced by the food service license once the food hygiene license expires.

 

The Fire Prevention Law, as amended by the SCNPC in October 2008, and the Provisions on Supervision and Inspection on Fire Prevention and Control, promulgated by the Ministry of Public Security and effective as of May 1, 2009, as amended on July 7, 17 2012 and effective on November 1, 2012, require that public gathering places such as hotels submit a fire prevention design plan in order to apply for completion acceptance of fire prevention facilities for their construction projects and to pass a fire prevention safety inspection by the local public security fire department, which is a prerequisite for opening business.

 

In January 2006, the State Council promulgated the Regulations for Administration of Entertainment Places. In March 2006, the Ministry of Culture issued the Circular on Carrying Out the Regulations for Administration of Entertainment Places. Under these regulations, hotels that provide entertainment facilities, such as discos or ballrooms, are required to obtain a license for entertainment business operations.

 

We request each hotel to provide its relevant permits and licenses before providing our service. However, we cannot ensure that all hotels available on our platforms have obtained, and maintained, all necessary permits and licenses. See “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—We may not be able to adequately monitor or ensure the service quality of our travel service providers and increases in user dissatisfaction with our travel service providers could materially and adversely affect our results of operations.”

 

Regulations on Sideline Insurance Agency

 

Under PRC law, insurance agency activities are categorized as either a “major business” or a “sideline business,” both of which are subject to the supervision of the China Insurance Regulatory Commission, or CIRC. According to the Provisional Measures on the Administration of Sideline Insurance Agencies, issued by the CIRC on August 4, 2000, an entity acting as a sideline insurance agency must apply for a Sideline Insurance Agency License with the CIRC. As revised by a decision issued by the State Council in 2004, an entity acting as a sideline insurance agency must apply for a Sideline Insurance Agency License with the competent local counterparts of the CIRC. To comply with these measures, our Principal VIE has obtained such a license.

 

On September 20, 2011, the CIRC promulgated the Provisional Measures for the Supervision and Management of Insurance Agency Business via the Internet, which requires an insurance agency that conducts business via the Internet to meet certain criteria related mainly to registered capital thresholds and the possession of a value-added telecommunications business related permit, and to complete the filing with the CIRC.

 

On May 16, 2012, the CIRC promulgated an Announcement on Risk Alert for the Internet Insurance Business, which states that no entities or individuals other than insurance providers, insurance agency companies and insurance brokerage companies are allowed to carry out internet insurance businesses without approval, including comparing and recommending insurance products on internet websites or providing other intermediary services for conclusion of insurance contracts. The CIRC has disclosed information relating to the operation of internet insurance business by insurance agencies and insurance brokerage companies on its official website.

 

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According to the announcement, insurance regulatory departments will investigate and punish entities or individuals who carry out internet insurance businesses illegally in a severe and timely fashion.

 

Our Principal VIE has obtained the Sideline Insurance Agency License. We act as an agent in selling aviation accident insurance policies over our SaaS system from time to time. We have not filed with the CIRC in accordance with the CIRC rules. If any official interpretation as to the applicability of the CIRC rules to a sideline insurance agency like us is issued, we will attend to such filing with the CIRC. Failure to do so could subject us to penalties imposed by the CIRC, including fines and revocation of our Principal VIE’s Sideline Insurance Agency License. See “Item 3. Key Information—D. Risk Factors—Risks Related to Doing Business in the PRC — We may be adversely affected by the complexity, uncertainties and changes in PRC regulation of internet and other related businesses.”

 

Regulations on Insurance Brokers

 

The PRC Insurance Law, which provided the initial framework for regulating the PRC insurance industry, including the licensing of insurance brokers, was enacted in 1995 and amended on October 28, 2002, February 28, 2009 and April 31, 2014. The Provisions on the Supervision and Administration of Insurance Brokers, promulgated by the CIRC on September 25, 2009 amended on April 27, 2013, provide detailed requirements for the licensing and operation of insurance brokers, including that an insurance broker must satisfy several requirements and obtain approval from the CIRC in order to be established. Among these requirements, insurance brokers must take the form of a limited liability company or limited stockholding company. The minimum registered capital of an insurance broker is RMB50 million. Further, there are specific requirements for the chairman of the board, executive directors and senior management personnel of insurance brokers, including that they hold qualification certificates issued by CIRC and have no track record of certain listed violations. An insurance brokerage operation license remains valid for three years after issuance and a renewal application must be submitted to the CIRC at least 30 days prior to the expiry date. The operation of an insurance brokerage company must follow the requirements of the Insurance Law and the Provisions on the Supervision and Administration of Insurance Brokers, including that the license itself be displayed prominently that the broker operate within its licensed insurance business scope, its staff obtain the relevant qualification certificates and it keep complete and standard business records and separate account books for the insurance brokerage, among others.

 

Our Principal VIE’s wholly owned subsidiary, Shenzhen ZhongChengTai Insurance Brokerage Co., Ltd. was approved by the CIRC as an insurance brokerage company and obtained an insurance brokerage operation license on August 29, 2013, valid until August 28, 2016.

 

Regulations on Travel Agency

 

The travel agency industry is subject to the supervision of the China National Tourism Administration, or CNTA, and local tourism administrations. The principal regulations governing travel agencies in China include: (i) the Regulation on Travel Agencies, or the Travel Agency Regulations, issued by the State Council in February 2009, which became effective as of May 1, 2009, and which replaced the Administration of Travel Agencies Regulations (1996), and (ii) the Implementing Rules for the Regulation on Travel Agencies (the “Travel Agency Implementing Rules”), promulgated by the CNTA in April 2009, which became effective as of May 3, 2009. Under these regulations, a travel agency must obtain a license from the CNTA to conduct cross-border travel business and a license from the provincial-level tourism administration to conduct domestic travel agency business.

 

The Travel Agency Regulations permit foreign investors to establish wholly foreign-owned travel agencies as well as joint ventures and cooperative travel agencies. Foreign-owned travel agencies are allowed to open branches nationwide, but are restricted from engaging in outbound tourism business in China unless otherwise determined by the State Council or provided under a bilateral free trade agreement between the country and China or under the closer economic partnership agreements among China, Hong Kong and Macau. The Travel Agency Implementing Rules define certain terms used in the Travel Agency Regulations (e.g., “domestic tourism business,” “inbound tourism business” and “outbound tourism business”), and set out detailed application requirements to establish a travel agency. The Travel Agency Implementing Rules also clarify certain aspects of legal liability for travel agencies as prescribed in the Travel Agency Regulations.

 

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In 2010, CNTA released the Measures for Dealing with Tourism Complaints, which took effect as of July 1, 2010. Under these Measures, authorities that are responsible for dealing with tourist complaints shall render a decision on the complaints within 60 days after the date of receipt thereof.

 

On April 25, 2013, the Standing Committee of the National People’s Congress of the PRC issued the Tourism Law of the PRC, or the Tourism Law, which took effect on October 1, 2013. The Tourism Law sets forth specific requirements for the operation of travel agencies, among which: travel agencies are prohibited from leasing, lending or illegally transferring travel agency operation licenses; the information published by travel agencies to attract and organize customers must be true and accurate and travel agencies must not conduct any false publicity to mislead customers; travel agencies are not allowed to arrange visits to or participation in any project or activity in violation of the laws and regulations of the PRC or social morality; travel agencies are prohibited from organizing tourism activities at unreasonably low prices to induce or cheat tourists, and obtaining unlawful profits such as kickbacks by shopping arrangements or tour items paid separately; travel agencies are prohibited from specifying shopping venues or arranging tour items paid separately when organizing and receiving tourists, except for those negotiated by the parties or demanded by the customers, which in any event should not affect the itineraries of other customers; travel agencies shall conclude contracts with customers for tourism activities; and, before the start of the itinerary, customers may transfer their personal rights and obligations in the package tour contract to any third person, which the travel agency shall not refuse without justifiable reasons, and any increased fees shall be borne by the customer and relevant third persons.

 

Travel agencies may be subject to civil liabilities for failing to fulfill the obligations discussed above. These liabilities include rectification, issuance of a warning, confiscation of any illegal income, imposition of a fine, an order to cease business operation or revocation of its travel agency permit. In addition, if a travel agency arranges shopping venues in violation of the Tourism Law, customers have the right, within 30 days after the end of the itinerary, to demand that the travel agencies handle the return of any purchased goods and make advance payment for the returned goods, or return the fees for any tour items paid separately.

 

Our Principal VIE’s wholly owned subsidiary, Qingdao Yi Lu Tong Xing International Travel Co., Ltd., was approved by the CNTA as a travel agency, and has obtained a travel agency operation license.

 

For certain of our business lines, we rely on travel service providers to provide travel products and services to our users. Although we take measures, such as requesting travel service providers to provide their relevant permits and/or licenses and establishing a user service center to deal with users’ complaints, we cannot make sure that all the travel service providers that are reachable through our platforms obtained and maintained all necessary permits. See “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—We may not be able to adequately monitor or ensure the service quality of our travel service providers and increases in user dissatisfaction with the travel service providers could materially and adversely affect our results of operations.”

 

Regulations on Car Services

 

Pursuant to the Road Traffic Safety Law promulgated by the Nation People’s Congress Standing Committee in October 2003 and amended in 2007 and 2011 (the “Road Traffic Safety Law”), all automotive vehicles must be registered with relevant local administration authorities. Vehicle registration certificates, vehicle license plates and vehicle licenses must be obtained from the same authorities, and compulsory traffic accident insurance must be purchased for each vehicle.

 

The MOT, and the National Planning Committee, the predecessor of the NDRC, promulgated the Interim Rules on the Administration of the Car Rental Industry in 1998, which were abolished in 2007.  Since then, there have been no national laws or regulations in place to specifically regulate the car rental industry in China.  The MOT promulgated the Circular on Promoting the Healthy Development of the Car Rental Industry in April 2011 (the “Car Rental Circular”), which sets forth guidelines for the car rental industry. The Car Rental Circular requires local government authorities, among other things, to 1) promulgate local rules and regulations to improve and develop the regulatory environment for car rentals, 2) to enhance the administration and management of the car rental industry, including requirements to obtain and carry a valid permit or license for each rental car, and rules against car rental companies engaging in road passenger transportation services without the requisite business licenses.

 

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A large number of provinces and cities, such as Beijing, Shanghai, Chongqing, Shijiazhuang, Kunming, Shenyang, Dalian, Anshan, Harbin, Xiamen, Nanchang, Jiangsu Province, Zhejiang Province, Shaanxi Province, Shanxi Province, Shandong Province, Sichuan Province, Guizhou Province, Jilin Province, Hubei Province and Hunan Province, have promulgated local road transportation regulations, which generally provide that the business scope of car rental services shall not include chauffeur services.  Moreover, certain provinces and cities explicitly restrict a car rental company from directly providing chauffeur services concurrently with car rental services.

 

We cooperate with third party car rental companies to provide car services for pickup and drop off to and from airports, train stations and tourist attraction sites as well as other travel-related ground transportation services.

 

Regulations on Internet Mapping Services

 

According to the amended Administrative Rules of Surveying Qualification Certificates and the amended Standard for Internet Map Services issued by the National Administration of Surveying, Mapping and Geoinformation, or NASMG, in July 2014 and May 2010 respectively, the provision of internet mapping services by any non-surveying and mapping enterprise is subject to the approval of the NASMG and requires a surveying and mapping qualification certificate. According to these rules, certain conditions and requirements, such as the number of technical personnel and map security verification personnel, security facilities and approval from the relevant provincial or national government on the service provider’s security system, qualification management and filings management, are necessary for an enterprise applying for a Surveying and Mapping Qualification Certificate. Pursuant to the Notice on Further Strengthening the Administration of Internet Map Services Qualification issued by the NASMG in December 2011, any entity that has not yet applied for a surveying qualification certificate for internet mapping services is prohibited from providing any internet mapping services. We have provided a map on our platforms to increase convenience for our users so that they can locate hotels near their desired location. Our Principal VIE holds a Surveying and Mapping Qualification Certificate for internet mapping.

 

Regulations on Advertisements

 

The PRC government regulates advertising, including online advertising, principally through the SAIC, although there is no PRC law or regulation at the national level that specifically regulates online advertising. Prior to November 30, 2004, in order to conduct any advertising business, an enterprise was required to hold an operating license for advertising in addition to a relevant business license. On November 30, 2004, the SAIC issued the Administrative Rules for Advertising Operation Licenses, effective as of January 1, 2005, granting a general exemption to this requirement for most enterprises (other than radio stations, television stations, newspapers and magazines, non-corporate entities and entities specified in other regulations). We conduct our online advertising business through our Principal VIE and Jiaxin Haoyuan, each of which holds a business license that covers online advertising in its scope of business.

 

Under the Rules for Administration of Foreign Invested Advertising Enterprises, which were jointly promulgated by the SAIC and the Ministry of Commerce on March 2, 2004 and amended on August 22, 2008, certain foreign investors are permitted to hold direct equity interests in PRC advertising companies. A foreign investor in a Chinese advertising company is required to have previously had direct advertising operations as its main business outside of China for two years if the Chinese advertising company is a joint venture, or three years if the Chinese advertising company is a wholly foreign-owned enterprise. In practice, the foreign investor is deemed compliant with the “main business” requirement if it derives more than 50% of its revenues from advertising business within the past two or three years, as applicable. Since we have not been involved in the advertising industry outside of China for the required number of years, we are not permitted to hold direct equity interests in PRC companies engaging in the advertising business. Therefore, we conduct our advertising business through consolidated affiliated entities in China, our Principal VIE and Jiaxin Haoyuan.

 

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Advertisers, advertising operators and advertising distributors are required by PRC advertising laws and regulations to ensure that the content of the advertisements they produce or distribute are true and in full compliance with applicable laws and regulations. In addition, where a special government review is required for certain categories of advertisements before publishing, the advertisers, advertising operators and advertising distributors are obligated to confirm that such review has been duly performed and that the relevant approval has been obtained. Violations of these regulations may result in penalties, including fines, confiscation of advertising income, orders to cease dissemination of the advertisements and orders to publish an advertisement correcting the misleading information. For serious violations, the SAIC or its local branches may order the violator to terminate its advertising operations or even revoke its business license. Furthermore, advertisers, advertising operators or advertising distributors may be subject to civil liabilities if they infringe on the legal rights and interests of third parties. To comply with these laws and regulations, we include clauses in all of our advertising contracts requiring that all advertising content provided by advertisers or advertising agencies must comply with the relevant laws and regulations.

 

Regulation on Group Buying

 

On March 12, 2012, the SAIC issued the Opinions on Strengthening the Administration of Online Group Buying Operations (the “Group Buying Operation Opinions”). The Group Buying Operation Opinions stipulate the qualification requirements for operators of group buying websites and certain other obligations, such as an examination of the licenses/authorizations of the providers of the relevant products/services offered on the group buying website, the group buying website operator’s contracts with such suppliers and customers, data protection for consumers and after sale services, among other items.

 

Qualification Requirements

 

Pursuant to the Group Buying Operation Opinions, operators of group buying websites must complete all relevant registrations, obtain a relevant business license and disclose or link to the business license information in a prominent place on the homepage of the website. Group buying websites without business licenses are prohibited. Group buying websites with business licenses but engaged in business operations in violation of the relevant PRC laws and regulations will be punished or may have their business licenses revoked.

 

Requirements and Obligations

 

The Group Buying Operation Opinions require operators of group buying websites to offer for sale only services and products from entities and individuals with a relevant business license and the necessary regulatory authorizations and require that such operators must examine such licenses/authorizations, maintain records of all of their suppliers and update such records in a timely fashion. In addition, the descriptions of any goods and services must be accurate and complete.

 

The Group Buying Operation Opinions also stipulate certain requirements for the contracts that the operators of group buying websites may enter into with suppliers and customers. Supplier contracts must be detailed and specify adequate quality assurances and consumer protection. Contracts with customers must comply with relevant laws and regulations and may not exempt the operator from any material obligations. The key provisions must also be highlighted for customers.

 

The Group Buying Operation Opinions require the group buying website operators to establish data protection systems and not to knowingly disclose any confidential information relating to their suppliers or customers.

 

Under the Group Buying Operation Opinions, operators of group buying websites must (i) establish a comprehensive after-sales service system, consumer dispute settlement system and professional customer service team, (ii) ensure that their complaint and customer support channels are smooth, and (iii) provide customers with troubleshooting assistance and feedback in a timely manner.