UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

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

For the quarterly period ended March 31, 2007

OR

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

For the transition period from                      to                     

EXPEDIA, INC.

(Exact name of registrant as specified in its charter)

Delaware		20-2705720
(State or other jurisdiction of		(I.R.S. Employer Identification No.)
incorporation or organization)

3150 139^th Avenue SE
Bellevue, WA 98005

(425) 679-7200

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

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

Large accelerated filer þ       Accelerated filer o      Non-accelerated filer o

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

     The number of shares outstanding of each of the registrant’s classes of common stock as of April 30, 2007 was:

Common stock, $0.001 par value per share		277,529,673 shares
Class B common stock, $0.001 par value per share		25,599,998 shares

 

 

Expedia, Inc.

Form 10-Q

For the Quarter Ended March 31, 2007

Contents

Part I		Financial Information
Item 1		Consolidated Financial Statements
		Consolidated Statements of Income for the Three Months Ended March 31, 2007 and 2006 (unaudited)			2
		Consolidated Balance Sheets as of March 31, 2007 (unaudited), and December 31, 2006			3
		Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2007 and 2006 (unaudited)			4
		Notes to Consolidated Financial Statements (unaudited)			5
Item 2		Management’s Discussion and Analysis of Financial Condition and Results of Operations			17
Item 3		Quantitative and Qualitative Disclosures about Market Risk			30
Item 4		Controls and Procedures			31
Part II		Other Information
Item 1		Legal Proceedings			32
Item 1A		Risk Factors			34
Item 2		Unregistered Sales of Equity Securities and Use of Proceeds			35
Item 6		Exhibits			36
Signature					37
EXHIBIT 10.1
EXHIBIT 31.1
EXHIBIT 31.2
EXHIBIT 31.3
EXHIBIT 32.1
EXHIBIT 32.2
EXHIBIT 32.3

Part I. Item 1. Consolidated Financial Statements

EXPEDIA, INC.

CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
(Unaudited)

		Three months ended
		March 31,
		2007				2006
Revenue		$	550,511			$	493,898
Cost of revenue(1)			121,298				119,314
Gross profit			429,213				374,584
Operating expenses:
Selling and marketing(1)			222,268				201,026
General and administrative(1)			76,163				73,361
Technology and content(1)			42,252				35,544
Amortization of intangible assets			21,196				30,171
Amortization of non-cash distribution and marketing			—				8,240
Operating income			67,334				26,242
Other income (expense):
Interest income			7,269				3,601
Interest expense			(11,176	)			(1,898	)
Other, net			(5,495	)			3,657
Total other income (expense), net			(9,402	)			5,360
Income before income taxes and minority interest			57,932				31,602
Provision for income taxes			(23,612	)			(9,658	)
Minority interest in loss of consolidated subsidiaries, net			456				1,391
Net income		$	34,776			$	23,335
Net earnings per share available to common stockholders:
Basic		$	0.11			$	0.07
Diluted			0.11				0.06
Shares used in computing earnings per share:
Basic			307,828				345,777
Diluted			323,749				365,168
(1) Includes stock-based compensation as follows:
Cost of revenue		$	883			$	3,225
Selling and marketing			3,235				5,251
General and administrative			7,669				9,687
Technology and content			4,073				5,724
Total stock-based compensation		$	15,860			$	23,887

See accompanying notes.

EXPEDIA, INC.

CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)

		March 31,				December 31,
		2007				2006
		(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents		$	637,722			$	853,274
Restricted cash and cash equivalents			19,582				11,093
Accounts and notes receivable, net of allowance of $5,174 and $4,874			289,926				211,430
Prepaid merchant bookings			89,551				39,772
Deferred income taxes, net			5,201				4,867
Prepaid expenses and other current assets			72,675				62,249
Total current assets			1,114,657				1,182,685
Property and equipment, net			141,871				137,144
Long-term investments and other assets			85,800				59,289
Intangible assets, net			1,024,010				1,028,774
Goodwill			5,892,415				5,861,292
TOTAL ASSETS		$	8,258,753			$	8,269,184
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable, merchant		$	655,850			$	600,192
Accounts payable, other			156,795				120,545
Deferred merchant bookings			946,851				466,474
Deferred revenue			11,602				10,317
Income taxes payable			—				30,902
Other current liabilities			157,614				171,695
Total current liabilities			1,928,712				1,400,125
Long-term debt			500,000				500,000
Deferred income taxes, net			373,232				369,297
Derivative liabilities			26,489				28,991
Other long-term liabilities			70,686				4,725
Minority interest			62,261				61,756
Commitments and contingencies
Stockholders’ equity:
Preferred stock $.001 par value			—				—
Authorized shares: 100,000,000
Series A shares issued and outstanding: 846 and 846
Common stock $.001 par value			330				328
Authorized shares: 1,600,000,000
Shares issued: 329,755,710 and 328,066,276
Shares outstanding: 277,278,642 and 305,901,048
Class B common stock $.001 par value			26				26
Authorized shares: 400,000,000
Shares issued and outstanding: 25,599,998 and 25,599,998
Additional paid-in capital			5,929,904				5,903,200
Treasury stock — Common stock, at cost			(987,638	)			(321,155	)
Shares: 52,477,068 and 22,165,228
Retained earnings			341,116				309,912
Accumulated other comprehensive income			13,635				11,979
Total stockholders’ equity			5,297,373				5,904,290
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	8,258,753			$	8,269,184

See accompanying notes.

EXPEDIA, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)

		Three months ended March 31,
		2007				2006
Operating activities:
Net income		$	34,776			$	23,335
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation			14,388				11,048
Amortization of intangible assets, non-cash distibution and marketing and stock-based compensation			37,056				62,298
Deferred income taxes			4,443				13,324
Unrealized (gain) loss on derivative instruments, net			1,391				(4,300	)
Equity in loss of unconsolidated affiliates			1,295				113
Minority interest in loss of consolidated subsidiaries, net			(456	)			(1,391	)
Foreign exchange (gain) loss on cash and cash equivalents, net			1,879				(1,627	)
Other			367				247
Changes in operating assets and liabilities, net of effects from acquisitions:
Accounts and notes receivable			(71,588	)			(24,753	)
Prepaid merchant bookings and prepaid expenses			(58,135	)			(46,971	)
Accounts payable, other and other current liabilities			35,681				(36,811	)
Accounts payable, merchant			55,309				21,294
Deferred merchant bookings			480,365				432,107
Deferred revenue			1,285				4,014
Net cash provided by operating activities			538,056				451,927
Investing activities:
Capital expenditures			(18,332	)			(13,038	)
Acquisitions, net of cash acquired			(39,851	)			(263	)
Increase in long-term investments and deposits			(28,507	)			(419	)
Net cash used in investing activities			(86,690	)			(13,720	)
Financing activities:
Short-term borrowings, net			—				(230,480	)
Changes in restricted cash and cash equivalents			(9,489	)			(8,731	)
Proceeds from exercise of equity awards			8,272				15,083
Excess tax benefit on equity awards			820				784
Treasury stock activity			(666,483	)			(5,576	)
Other, net			393				—
Net cash used in financing activities			(666,487	)			(228,920	)
Effect of exchange rate changes on cash and cash equivalents			(431	)			2,327
Net increase (decrease) in cash and cash equivalents			(215,552	)			211,614
Cash and cash equivalents at beginning of period			853,274				297,416
Cash and cash equivalents at end of period		$	637,722			$	509,030
Supplemental cash flow information
Cash paid for interest		$	19,241			$	2,715
Income tax payments, net			3,151				30,855

See accompanying notes.

Notes to Consolidated Financial Statements
March 31, 2007
(Unaudited)

Note 1 – Basis of Presentation

Description of Business

     Expedia, Inc. and its subsidiaries provide travel products and services to leisure and corporate travelers in the United States and abroad. These travel products and services are offered through a diversified portfolio of brands including: Expedia.com^®, Hotels.com^®, Hotwire.com^tm, our private label programs (Worldwide Travel Exchange and Interactive Affiliate Network), Classic Vacations, Expedia^® Corporate Travel (“ECT”), eLong^tm, Inc. (“eLong”) and TripAdvisor^®. In addition, many of these brands have related international points of sale. We refer to Expedia, Inc. and its subsidiaries collectively as “Expedia,” the “Company,” “us,” “we” and “our” in these consolidated financial statements.

Basis of Presentation

     These accompanying financial statements present our results of operations, financial position and cash flows on a consolidated basis. The unaudited consolidated financial statements include Expedia, Inc., our wholly-owned subsidiaries, and entities we control, or in which we have a variable interest and are the primary beneficiary of future cash profits or losses. We have eliminated significant intercompany transactions and accounts.

     We have prepared the accompanying unaudited consolidated financial statements in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial reporting. We have included all adjustments necessary for a fair presentation of the results of the interim period. These adjustments consist of normal recurring items. Our interim unaudited consolidated financial statements are not necessarily indicative of results that may be expected for any other interim period or for the full year. These interim unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2006, previously filed with the Securities and Exchange Commission (“SEC”).

Accounting Estimates

     We use estimates and assumptions in the preparation of our interim unaudited consolidated financial statements in accordance with GAAP. Our estimates and assumptions affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of our interim unaudited consolidated financial statements. These estimates and assumptions also affect the reported amount of net income during any period. Our actual financial results could differ significantly from these estimates. The significant estimates underlying our interim unaudited consolidated financial statements include revenue recognition, recoverability of long-lived and intangible assets and goodwill, income taxes, occupancy tax, stock-based compensation and accounting for derivative instruments.

Reclassifications

     We have reclassified prior period financial statements to conform to the current period presentation.

     In our consolidated statement of cash flows for the three months ended March 31, 2006, we reclassified net foreign exchange gains and losses on cash of U.S. functional subsidiaries held in foreign currencies from operating cash flows to effect of exchange rate changes on cash and cash equivalents to appropriately reflect foreign currency impacts on cash and cash equivalents for the periods presented.

Notes to Consolidated Financial Statements — (Continued)

     We generally experience seasonal fluctuations in the demand for our travel products and services. For example, traditional leisure travel bookings are generally the highest in the first three quarters of the year as travelers plan and book their spring, summer and holiday travel. The number of bookings typically decreases in the fourth quarter. Because revenue in the merchant business is generally recognized when the travel takes place rather than when it is booked, revenue typically lags bookings by several weeks or longer. As a result, revenue is typically the lowest in the first quarter and highest in the third quarter.

Note 2 – Summary of Significant Accounting Policies

Income Taxes

     In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 109, Accounting for Income Taxes, we record income taxes under the liability method. Deferred tax assets and liabilities reflect our estimation of the future tax consequences of temporary differences between the carrying amounts of assets and liabilities for book and tax purposes. We determine deferred income taxes based on the differences in accounting methods and timing between financial statement and income tax reporting. Accordingly, we determine the deferred tax asset or liability for each temporary difference based on the enacted tax rates in effect for the years in which we expect to realize the underlying items of income and expense. We consider many factors when assessing the likelihood of future realization of our deferred tax assets, including our recent earnings experience by jurisdiction, expectations of future taxable income, and the carryforward periods available to us for tax reporting purposes, as well as other relevant factors. We may establish a valuation allowance to reduce deferred tax assets to the amount we believe is more likely than not to be realized. Due to inherent complexities arising from the nature of our businesses, future changes in income tax law, tax sharing agreements or variances between our actual and anticipated operating results, we make certain judgments and estimates. Therefore, actual income taxes could materially vary from these estimates.

     For the period January 1, 2005 through the date of our separation from IAC/InterActiveCorp (“IAC”) on August 9, 2005 (the “Spin-Off”), we were a member of the IAC consolidated tax group. Accordingly, IAC filed a federal income tax return and certain state income tax returns on a combined basis with us for that period. IAC paid the entire combined income tax liability related to these filings. As such, our estimated income tax liability for that period was transferred to IAC upon Spin-Off. Under the terms of the Tax Sharing Agreement, IAC could make certain elections in preparation of these tax returns, which changed the amount of income taxes owed for the period before the Spin-Off. We recorded those changes as adjustments to stockholders’ equity in accordance with Emerging Issues Task Force No. 94-10, Accounting by a Company for the Income Tax Effects of Transactions Among or With its Shareholders under FASB Statement 109.

     On January 1, 2007, we adopted Financial Accounting Standards Board (“FASB”) Interpretation No. 48, Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109 (“FIN 48”). As a result of the adoption of FIN 48, we recognized an approximately $18.9 million increase in the liability for uncertain tax positions, of which $14.7 million of the increase was accounted for as an increase to the January 1, 2007 balance of goodwill as the underlying tax positions related to business combinations and $4.2 million as a reduction to the January 1, 2007 balance of retained earnings. These amounts do not include the federal tax benefit associated with these positions, which are immaterial.

     As of January 1, 2007, we had $65.5 million of liabilities for uncertain tax positions, which included $14.0 million of positions that, if recognized, would decrease our provision for income taxes. We recognize interest and penalties related to our liabilities for these positions in income tax expense. As of January 1, 2007, we had approximately $5.4 million accrued for the potential payment of estimated interest and penalties.

     We file income tax returns in the U.S. federal jurisdiction and various state and foreign jurisdictions. We are no longer subject to tax examinations by tax authorities for years prior to 1998.

Notes to Consolidated Financial Statements — (Continued)

     There were no material changes to these amounts during the three months ended March 31, 2007.

Certain Risks and Concentrations

     Our business is subject to certain risks and concentrations including dependence on relationships with travel suppliers, primarily airlines and hotels, dependence on third-party technology providers, exposure to risks associated with online commerce security and credit card fraud. In particular, we depend on our overall relationships with the major airlines. We also depend on global distribution system partners and third-party service providers for certain fulfillment services, including one third-party service provider for which we accounted for approximately 47% of its total revenue for the year ended December 31, 2006.

New Accounting Pronouncements

     In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value in GAAP, and expands disclosures about fair value measurements. SFAS 157 applies when another standard requires or permits assets or liabilities to be measured at fair value. Accordingly, SFAS 157 does not require any new fair value measurements. SFAS 157 is effective in fiscal years beginning after November 15, 2007. We are in the process of determining the impact, if any, of this statement on our results from operations, financial position or cash flows.

     In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities—Including an Amendment of SFAS Statement No. 115 (“SFAS 159”), which is effective for fiscal years beginning after November 15, 2007. SFAS 159 permits an entity to choose to measure many financial instruments and certain other items at fair value at specified election dates. Subsequent unrealized gains and losses on items for which the fair value option has been elected will be reported in earnings. We are in the process of determining the impact, if any, of this statement on our results from operations, financial position or cash flows.

Note 3 – Debt

Short-term Borrowings

     In July 2005, we entered into a $1.0 billion five-year unsecured revolving credit facility with a group of lenders, which is unconditionally guaranteed by certain Expedia subsidiaries. The facility bears interest based on our financial leverage; as of March 31, 2007 and December 31, 2006, our interest rate was equal to LIBOR plus 0.50%.

     The amount of stand-by letters of credit issued under the facility reduces the amount available to us. As of March 31, 2007 and December 31, 2006, there was $49.6 million and $52.0 million of outstanding stand-by letters of credit issued under the facility. As of March 31, 2007 and December 31, 2006, there was no amount outstanding under the facility.

Long-term Debt

     In August 2006, we privately placed $500.0 million of senior unsecured notes due 2018. In March 2007, we completed an offer to exchange these notes for registered notes having substantially the same financial terms and covenants as the original notes (the unregistered and registered notes collectively, the “Notes”). The Notes bear a fixed rate interest of 7.456% with interest payable semi-annually in February and August of each year. The amount of accrued interest related to the Notes was $4.7 million and $13.4 million as of March 31, 2007 and December 31, 2006. The Notes are repayable in whole or in part on August 15, 2013, at the option of the holders of such Notes, at 100% of the principal amount plus accrued interest. We may redeem the Notes in accordance with the terms of the agreement, in whole or in part, at any time at our option.

Notes to Consolidated Financial Statements — (Continued)

     The Notes are senior unsecured obligations guaranteed by certain domestic Expedia subsidiaries and rank equally in right of payment with all of our existing and future unsecured and unsubordinated obligations. For further information, see Note 11 — Guarantor and Non-Guarantor Supplemental Financial Information.

Note 4 – Derivative Instruments

     The fair value of our derivative financial instruments generally represents the estimated amounts we would expect to receive or pay upon termination of the contracts as of the reporting date. Our derivative liabilities balance consists of the following:

		March 31,				December 31,
		2007				2006
		(in thousands)
Ask Jeeves Notes		$	12,300			$	15,900
Cross-currency swaps and other			14,189				13,091
		$	26,489			$	28,991

     As a result of the Spin-Off, we assumed certain obligations to IAC related to IAC’s Ask Jeeves Convertible Subordinated Notes (“Ask Jeeves Notes”). During the three months ended March 31, 2007, certain of these notes were converted and we released approximately 0.2 million shares of our common stock from escrow with a fair value of $4.9 million to satisfy the conversion requirements. During the three months ended March 31, 2007 and 2006, we recognized a net loss of $1.3 million and a net gain of $4.1 million related to these Ask Jeeves Notes.

     As of March 31, 2007, we estimate that we could be required to release from escrow up to 0.6 million shares of our common stock (or pay cash in equal value, in lieu of issuing such shares). The Ask Jeeves Notes are due June 1, 2008; upon maturity of these notes, our obligation to satisfy demands for conversion ceases.

     We enter into cross-currency swaps to hedge against the change in value of certain intercompany loans denominated in currencies other than the lending subsidiaries’ functional currency. These swaps have been designated as cash flow hedges and are re-measured at fair value each reporting period.

Notes to Consolidated Financial Statements — (Continued)

Note 5 – Earnings Per Share

     The following table presents our basic and diluted earnings per share:

		Three months ended March 31,
		2007				2006
		(in thousands, except per share data)
Net income		$	34,776			$	23,335
Net earnings per share available to common stockholders:
Basic		$	0.11			$	0.07
Diluted			0.11				0.06
Weighted average number of shares outstanding:
Basic			307,828				345,777
Dilutive effect of:
Options to purchase common stock			8,301				9,956
Warrants to purchase common stock			4,998				5,167
Other dilutive securities			2,622				4,268
Diluted			323,749				365,168

Note 6 – Stockholders’ Equity

Stock-based Awards

     Stock-based compensation expense relates primarily to expense for stock options and restricted stock units (“RSUs”). Since February 2003, we have awarded RSUs as our primary form of employee stock-based compensation. Our stock-based awards generally vest over five years.

     As of March 31, 2007, we had stock-based awards outstanding representing approximately 31 million of our common stock consisting of approximately 9 million RSUs and stock options to purchase approximately 22 million common shares with a $16.65 weighted average exercise price and weighted average remaining life of 3.1 years.

     Annual employee RSU grants typically occur during the first quarter of each year. During first quarter 2007, we granted 3.1 million RSUs. Net of cancellations, expirations and forfeitures occurring during first quarter 2007, RSUs increased 2.4 million.

     For the three months ended March 31, 2007, stock-based compensation expense was $15.9 million, consisting of $12.2 million in expense primarily related to RSUs and $3.7 million in stock option expense.

Share Repurchases

     On December 8, 2006, we announced our intention to repurchase up to 30 million shares of our common stock in a tender offer at a price per share not less than $18.50 and not greater than $22.00. During the three months ended March 31, 2007, we completed the tender offer pursuant to which we acquired 30 million tendered shares of our common stock at a purchase price of $22.00 per share, for a total cost of $660 million plus fees and expenses relating to the tender offer.

Other Comprehensive Income

     Comprehensive income was $36.4 million and $22.7 million for the three months ended March 31, 2007 and 2006. The primary differences between net income as reported and comprehensive income were foreign currency translation adjustments and net gains (losses) on cross-currency hedge contracts.

Notes to Consolidated Financial Statements — (Continued)

Note 7 – Acquisitions and Other Investments

     During the three months ended March 31, 2007, we acquired two travel information-related companies. The purchase price of these and other acquisition related costs totaled $41.1 million, of which we paid $39.9 million in cash and recorded $18.3 million in goodwill and $16.3 million of intangible assets. Based on the 2007 and 2008 financial performance of one of the acquired companies, we are obligated to pay an additional purchase price ranging from $0 to a maximum of approximately $100 million.

     On March 30, 2007, we acquired a 50% ownership interest in a travel company for $26.0 million in cash. We include this investment in long-term investments and other assets and account for it under the equity method. The investment agreement grants certain rights, whereby we may acquire and the investee may sell to us the additional shares of the company, at fair value or at established multiples of future earnings, at our discretion, at various times through 2013.

     We also extended to this company a $10 million secured revolving operating line of credit and a credit facility for up to $20 million. As of the end of 2008, any amounts due under the credit facility are convertible, at our option, into shares of the company at a premium to the then fair market value. No amounts were drawn against either credit facility as of March 31, 2007.

Note 8 – Commitments and Contingencies

Legal Proceedings

     In the ordinary course of business, we are a party to various lawsuits. In the opinion of management, we do not expect these lawsuits to have a material impact on the liquidity, results of operations or financial condition of Expedia. We also evaluate other potential contingent matters, including value-added tax, federal excise tax, transient occupancy or accommodation tax and similar matters. We do not believe that the aggregate amount of liability that could be reasonably possible with respect to these matters would have a material adverse affect on our financial results.

     Litigation Relating to Hotel Occupancy Taxes. Lawsuits have been filed by thirty-five cities and counties involving hotel occupancy taxes. In addition, there have been five consumer lawsuits filed relating to taxes and fees. The municipality and consumer lawsuits are in various stages ranging from responding to the complaint to discovery. We continue to defend these lawsuits vigorously. To date, seven of the municipality lawsuits have been dismissed. These dismissals have been without prejudice and, generally, allow the municipality to seek administrative remedies prior to pursuing further litigation. As a result of this litigation and other attempts by certain jurisdictions to levy such taxes, we have established a reserve for the potential settlement of issues related to hotel occupancy taxes in the amount of $18.0 million and $17.5 million at March 31, 2007 and December 31, 2006, respectively. Our reserve is based on our best estimates and the ultimate resolution of these issues may be greater or less than the liabilities recorded.

Note 9 – Related Party Transactions

Commercial Agreements with IAC

     Since the Spin-Off, we have continued to work with some of IAC’s businesses pursuant to a variety of commercial agreements. These commercial agreements generally include (i) distribution agreements, pursuant to which certain subsidiaries of IAC distribute their respective products and services via arrangements with Expedia, and vice versa, (ii) services agreements, pursuant to which certain subsidiaries of IAC provide Expedia with various services and vice versa and (iii) office space lease agreements. The distribution agreements typically involve the payment of fees, usually on a fixed amount-per-transaction, revenue share or commission basis, from the party

Notes to Consolidated Financial Statements — (Continued)

seeking distribution of the product or service to the party that is providing the distribution. Operating expenses related to these transactions were less than $1 million during the three months ended March 31, 2007.

Note 10 – Segment Information

     We have two reportable segments: North America and Europe. We determined our segments based on how our chief operating decision makers manage our business, make operating decisions and evaluate operating performance. Our primary operating metric for evaluating segment performance is “Operating Income Before Amortization” (defined below), which includes allocations of certain expenses, primarily cost of revenue and facilities, to the segments. We base the allocations primarily on transaction volumes and other usage metrics; this methodology is periodically evaluated and may change. We do not allocate certain shared expenses to reportable segments such as partner services, product development, accounting, human resources and legal. We include these expenses in Corporate and Other.

     Our North America segment provides a full range of travel services to customers in the United States, Canada and Mexico. This segment operates through a variety of brands including Classic Vacations, Expedia, Hotels.com, Hotwire.com and TripAdvisor. Our Europe segment provides travel services primarily through localized Expedia websites in Denmark, France, Germany, Italy, the Netherlands, Norway, Spain, Sweden and the United Kingdom, as well as localized versions of Hotels.com in various European countries.

     Corporate and Other includes ECT, Expedia Asia Pacific and unallocated corporate functions and expenses. ECT provides travel products and services to corporate customers in North America and Europe. Expedia Asia Pacific provides online travel information and reservation services primarily through eLong in the People’s Republic of China, localized Expedia websites in Australia and Japan, whose site launched in November 2006, as well as localized versions of Hotels.com in various Asian countries. In addition, we record amortization of intangible assets and any related impairment, as well as stock-based compensation expense in Corporate and Other.

Notes to Consolidated Financial Statements — (Continued)

     The following table presents our segment information for the three months ended March 31, 2007 and 2006. As a significant portion of our property and equipment is not allocated to our operating segments, we do not report the assets or related depreciation expense as it would not be meaningful, nor do we regularly provide such information to our chief operating decision makers.

		Three months ended March 31, 2007
										Corporate and
		North America				Europe				Other				Total
		(in thousands)
Revenue		$	406,401			$	109,990			$	34,120			$	550,511
Operating Income Before Amortization		$	164,015			$	25,646			$	(85,271	)		$	104,390
Amortization of intangible assets			—				—				(21,196	)			(21,196	)
Stock-based compensation			—				—				(15,860	)			(15,860	)
Operating income (loss)		$	164,015			$	25,646			$	(122,327	)		$	67,334

		Three months ended March 31, 2006
										Corporate and
		North America				Europe				Other				Total
		(in thousands)
Revenue		$	381,925			$	85,268			$	26,705			$	493,898
Operating Income Before Amortization		$	147,174			$	15,344			$	(73,978	)		$	88,540
Amortization of intangible assets			—				—				(30,171	)			(30,171	)
Stock-based compensation			—				—				(23,887	)			(23,887	)
Amortization of non-cash distribution and marketing			(8,240	)			—				—				(8,240	)
Operating income (loss)		$	138,934			$	15,344			$	(128,036	)		$	26,242

     We have revised certain 2006 revenue and expense allocations between our segments to reflect current allocations for certain points of sale. There was no impact on total consolidated revenue or operating income before amortization as a result of these changes.

Definition of Operating Income Before Amortization (“OIBA”)

     We provide OIBA as a supplemental measure to GAAP. We define OIBA as operating income plus: (1) amortization of non-cash distribution and marketing expense, (2) stock-based compensation expense, (3) amortization of intangible assets and goodwill and intangible asset impairment, if applicable and (4) certain one-time items, if applicable.

     OIBA is the primary operating metric used by which management evaluates the performance of our business, on which internal budgets are based, and by which management is compensated. Management believes that investors should have access to the same set of tools that management uses to analyze our results. This non-GAAP measure should be considered in addition to results prepared in accordance with GAAP, but should not be considered a substitute for, or superior to, GAAP. We endeavor to compensate for the limitation of the non-GAAP measure presented by also providing the comparable GAAP measures, GAAP financial statements, and descriptions of the reconciling items and adjustments, to derive the non-GAAP measure. We present a reconciliation of this non-GAAP financial measure to GAAP below.

     OIBA represents the combined operating results of Expedia, Inc.’s businesses, taking into account depreciation, which we believe is an ongoing cost of doing business, but excluding the effects of other non-cash expenses that may not be indicative of our core business operations. We believe this measure is useful to investors for the following reasons:

Notes to Consolidated Financial Statements — (Continued)

	•		It corresponds more closely to the cash operating income generated from our core operations by excluding significant non-cash operating expenses;
	•		It aids in forecasting and analyzing future operating income as stock-based compensation, non-cash distribution and marketing expenses and intangible assets amortization, assuming no subsequent acquisitions, are likely to decline going forward; and
	•		It provides greater insight into management decision making at Expedia, as OIBA is our primary internal metric for evaluating the performance of our business.

     OIBA has certain limitations in that it does not take into account the impact of certain expenses to our consolidated statements of income, including stock-based compensation, non-cash payments to partners, acquisition-related accounting and certain one-time items, if applicable. Due to the high variability and difficulty in predicting certain items that affect net income, such as tax rates, stock price and interest rates, we are unable to provide a reconciliation to net income on a forward-looking basis without unreasonable efforts.

Reconciliation of OIBA to Operating Income and Net Income

     The following table presents a reconciliation of OIBA to operating income and net income for the three months ended March 31, 2007 and 2006:

		Three months ended
		March 31,
		2007				2006
		(in thousands)
OIBA		$	104,390			$	88,540
Amortization of intangible assets			(21,196	)			(30,171	)
Stock-based compensation			(15,860	)			(23,887	)
Amortization of non-cash distribution and marketing			—				(8,240	)
Operating income			67,334				26,242
Interest income (expense), net			(3,907	)			1,703
Other, net			(5,495	)			3,657
Provision for income taxes			(23,612	)			(9,658	)
Minority interest in loss of consolidated subsidiaries, net			456				1,391
Net income		$	34,776			$	23,335

NOTE 11 – Guarantor and Non-Guarantor Supplemental Financial Information

     Condensed consolidating financial information of Expedia, Inc. (the “Parent”), our subsidiaries that are guarantors of the Notes (the “Guarantor Subsidiaries”), and our subsidiaries that are not guarantors of the Notes (the “Non-Guarantor Subsidiaries”) is shown below. The Notes are guaranteed by certain of our wholly-owned domestic subsidiaries and rank equally in right of payment with all of our existing and future unsecured and unsubordinated obligations. The guarantees are full, unconditional, joint and several. In this financial information, the Parent and Guarantor Subsidiaries account for investments in their wholly-owned subsidiaries using the equity method.

Notes to Consolidated Financial Statements — (Continued)

CONDENSED CONSOLIDATING STATEMENT OF INCOME
Three Months Ended March 31, 2007
(in thousands)

						Guarantor				Non-Guarantor
		Parent				Subsidiaries				Subsidiaries				Eliminations				Consolidated
Revenue		$	—			$	503,539			$	129,280			$	(82,308	)		$	550,511
Cost of revenue			—				100,617				21,775				(1,094	)			121,298
Gross profit			—				402,922				107,505				(81,214	)			429,213
Operating expenses:
Selling and marketing			—				222,127				81,411				(81,270	)			222,268
General and administrative			—				59,925				16,223				15				76,163
Technology and content			—				33,081				9,130				41				42,252
Amortization of intangible assets			—				19,499				1,697				—				21,196
Operating income (loss)			—				68,290				(956	)			—				67,334
Other income (expense):
Equity in pre-tax earnings of consolidated subsidiaries			46,718				626				—				(47,344	)			—
Other, net			(12,546	)			3,870				(726	)			—				(9,402	)
Total other income (expense), net			34,172				4,496				(726	)			(47,344	)			(9,402	)
Income (loss) before income taxes and minority interest			34,172				72,786				(1,682	)			(47,344	)			57,932
Provision for income taxes			604				(25,252	)			1,036				—				(23,612	)
Minority interest in loss of consolidated subsidiaries, net			—				—				456				—				456
Net income (loss)		$	34,776			$	47,534			$	(190	)		$	(47,344	)		$	34,776

CONDENSED CONSOLIDATING STATEMENT OF INCOME
Three Months Ended March 31, 2006
(in thousands)

						Guarantor				Non-Guarantor
		Parent				Subsidiaries				Subsidiaries				Eliminations				Consolidated
Revenue		$	—			$	456,801			$	103,183			$	(66,086	)		$	493,898
Cost of revenue			—				102,030				18,130				(846	)			119,314
Gross profit			—				354,771				85,053				(65,240	)			374,584
Operating expenses:
Selling and marketing			—				202,083				64,183				(65,240	)			201,026
General and administrative			—				58,351				15,010				—				73,361
Technology and content			—				27,711				7,833				—				35,544
Amortization of intangible assets			—				28,380				1,791				—				30,171
Amortization of non-cash distribution and marketing			—				8,240				—				—				8,240
Operating income (loss)			—				30,006				(3,764	)			—				26,242
Other income (expense):
Equity in pre-tax earnings (losses) of consolidated subsidiaries			20,452				(2,547	)			—				(17,905	)			—
Other, net			2,402				3,737				(779	)			—				5,360
Total other income (expense), net			22,854				1,190				(779	)			(17,905	)			5,360
Income (loss) before income taxes and minority interest			22,854				31,196				(4,543	)			(17,905	)			31,602
Provision for income taxes			481				(10,622	)			483				—				(9,658	)
Minority interest in loss of consolidated subsidiaries, net			—				32				1,359				—				1,391
Net income (loss)		$	23,335			$	20,606			$	(2,701	)		$	(17,905	)		$	23,335

Notes to Consolidated Financial Statements — (Continued)

CONDENSED CONSOLIDATING BALANCE SHEET
March 31, 2007
(in thousands)

						Guarantor				Non-Guarantor
		Parent				Subsidiaries				Subsidiaries				Eliminations				Consolidated
ASSETS
Total current assets		$	2,952			$	1,204,843			$	289,299			$	(382,437	)		$	1,114,657
Investment in subsidiaries			6,037,926				329,984				—				(6,367,910	)			—
Intangible assets, net			—				976,275				47,735				—				1,024,010
Goodwill			—				5,604,385				288,030				—				5,892,415
Other assets, net			5,929				163,934				57,808				—				227,671
TOTAL ASSETS		$	6,046,807			$	8,279,421			$	682,872			$	(6,750,347	)		$	8,258,753
LIABILITIES AND STOCKHOLDERS’ EQUITY
Total current liabilities		$	237,056			$	1,795,088			$	279,005			$	(382,437	)		$	1,928,712
Long-term debt			500,000				—												500,000
Other liabilities and minority interest			12,378				442,835				77,455				—				532,668
Stockholders’ equity			5,297,373				6,041,498				326,412				(6,367,910	)			5,297,373
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	6,046,807			$	8,279,421			$	682,872			$	(6,750,347	)		$	8,258,753

CONDENSED CONSOLIDATING BALANCE SHEET
December 31, 2006
(in thousands)

						Guarantor				Non-Guarantor
		Parent				Subsidiaries				Subsidiaries				Eliminations				Consolidated
ASSETS
Total current assets		$	461,397			$	916,216			$	267,113			$	(462,041	)		$	1,182,685
Investment in subsidiaries			5,951,961				295,989				—				(6,247,950	)			—
Intangible assets, net			—				989,668				39,106				—				1,028,774
Goodwill			—				5,593,031				268,261				—				5,861,292
Other assets, net			6,863				137,073				58,412				(5,915	)			196,433
TOTAL ASSETS		$	6,420,221			$	7,931,977			$	632,892			$	(6,715,906	)		$	8,269,184
LIABILITIES AND STOCKHOLDERS’ EQUITY
Total current liabilities		$	—			$	1,598,859			$	263,306			$	(462,040	)		$	1,400,125
Long-term debt			500,000				—												500,000
Other liabilities and minority interest			15,931				378,399				76,354				(5,915	)			464,769
Stockholders’ equity			5,904,290				5,954,719				293,232				(6,247,951	)			5,904,290
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	6,420,221			$	7,931,977			$	632,892			$	(6,715,906	)		$	8,269,184

CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
Three Months Ended March 31, 2007
(in thousands)

						Guarantor				Non-Guarantor
		Parent				Subsidiaries				Subsidiaries				Consolidated
Operating activities:
Net cash provided by (used in) operating activities		$	(1,568	)		$	505,073			$	34,551			$	538,056
Investing activities:
Other, net			1,568				(52,010	)			(36,248	)			(86,690	)
Net cash provided by (used in) investing activities			1,568				(52,010	)			(36,248	)			(86,690	)
Financing activities:
Treasury stock activity			(666,483	)			—				—				(666,483	)
Transfers (to) from related parties			657,999				(657,999	)			—				—
Other, net			8,484				(8,639	)			151				(4	)
Net cash provided by (used in) financing activities			—				(666,638	)			151				(666,487	)
Effect of exchange rate changes on cash and cash equivalents			—				(1,330	)			899				(431	)
Net increase in cash and cash equivalents			—				(214,905	)			(647	)			(215,552	)
Cash and cash equivalents at beginning of period			—				658,540				194,734				853,274
Cash and cash equivalents at end of period		$	—			$	443,635			$	194,087			$	637,722

Notes to Consolidated Financial Statements — (Continued)

CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
Three Months Ended March 31, 2006
(in thousands)

						Guarantor				Non-Guarantor
		Parent				Subsidiaries				Subsidiaries				Consolidated
Operating activities:
Net cash provided by operating activities		$	2,960			$	440,878			$	8,089			$	451,927
Investing activities:
Other, net			(2,960	)			(7,604	)			(3,156	)			(13,720	)
Net cash used in investing activities			(2,960	)			(7,604	)			(3,156	)			(13,720	)
Financing activities:
Short-term borrowings, net			(230,000	)			(95	)			(385	)			(230,480	)
Transfers (to) from related parties			220,605				(220,605	)			—				—
Treasury stock activity			(5,576	)			—				—				(5,576	)
Other, net			14,971				(7,858	)			23				7,136
Net cash used in financing activities			—				(228,558	)			(362	)			(228,920	)
Effect of exchange rate changes on cash and cash equivalents			—				2,530				(203	)			2,327
Net increase in cash and cash equivalents			—				207,246				4,368				211,614
Cash and cash equivalents at beginning of period			—				151,523				145,893				297,416
Cash and cash equivalents at end of period		$	—			$	358,769			$	150,261			$	509,030

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

Forward-Looking Statements

     This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements reflect the views of our management regarding current expectations and projections about future events and are based on currently available information. Actual results could differ materially from those contained in these forward-looking statements for a variety of reasons, including, but not limited to, those discussed in our Annual Report on Form 10-K for the year ended December 31, 2006, Part I, Item 1A, “Risk Factors,” as well as those discussed elsewhere in this report. Other unknown or unpredictable factors also could have a material adverse effect on our business, financial condition and results of operations. Accordingly, readers should not place undue reliance on these forward-looking statements. The use of words such as “anticipates,” “estimates,” “expects,” “intends,” “plans” and “believes,” among others, generally identify forward-looking statements; however, these words are not the exclusive means of identifying such statements. In addition, any statements that refer to expectations, projections or other characterizations of future events or circumstances are forward-looking statements. These forward-looking statements are inherently subject to uncertainties, risks and changes in circumstances that are difficult to predict. We are not under any obligation and do not intend to publicly update or review any of these forward-looking statements, whether as a result of new information, future events or otherwise, even if experience or future events make it clear that any expected results expressed or implied by those forward-looking statements will not be realized. Please carefully review and consider the various disclosures made in this report and in our other reports filed with the Securities and Exchange Commission (“SEC”) that attempt to advise interested parties of the risks and factors that may affect our business, prospects and results of operations.

     The information included in this management’s discussion and analysis of financial condition and results of operations should be read in conjunction with our consolidated financial statements and the notes included in this Quarterly Report, and the audited consolidated financial statements and notes and Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report on Form 10-K for the year ended December 31, 2006.

Overview

     Expedia, Inc. is an online travel company, empowering business and leisure travelers with the tools and information they need to efficiently research, plan, book and experience travel. We have created a global travel marketplace used by a broad range of leisure and corporate travelers and offline retail travel agents as well as travel service providers. We make available, on a stand-alone and package basis, travel products and services provided by numerous airlines, lodging properties, car rental companies, destination service providers, cruise lines and other travel product and service companies.

     Our portfolio of brands includes Expedia.com^®, Hotels.com^®, Hotwire.com^tm, our private label programs (Worldwide Travel Exchange and Interactive Affiliate Network), Classic Vacations, Expedia^® Corporate Travel (“ECT”), eLong^tm and TripAdvisor^®. In addition, many of these brands have related international points of sale. For additional information about our portfolio of brands, see the disclosure included in our Annual Report on Form 10-K for the year ended December 31, 2006.

Industry Trends

     The travel industry, including offline and online travel agencies, as well as suppliers of travel products and services, has been characterized by rapid and significant change.

     The U.S. airline sector in particular has experienced significant turmoil in recent years, with oil prices hitting all-time highs, the shift of capacity to low-cost carriers (“LCCs”) offering “no frills” flights at discounted prices and the entry and emergence of several of the largest traditional carriers from the protection of Chapter 11 bankruptcy proceedings.

     The traditional carriers’ need to rationalize high fixed cost structures to better compete in this environment has caused them to consider consolidation opportunities to better share fixed costs and reduce redundant flight routes. These attempts have generally been unsuccessful either due to antitrust concerns or reluctance among target companies to consummate mergers. Carriers have also aggressively pursued cost reductions in every aspect of their operations, including distribution costs, which the airlines have accomplished by increasing direct distribution through their proprietary websites, thereby reducing travel agent commissions and overrides. The airlines also successfully reduced payments to with the global distribution system (“GDS”) intermediaries as contracts with the GDSs expired in mid to late 2006. These reductions, in turn, impacted travel agents as large agencies, including Expedia, have historically received a meaningful portion of their air remuneration from GDS providers.

     Through the end of 2006, the U.S. airline industry enjoyed increasing load factors and rapidly escalating ticket prices. At the same time, the carriers which participate in the Expedia marketplace have been reducing their share of total air seat per mile capacity; while the LCCs, which have increased their relative capacity have not generally participated in the Expedia marketplace. These trends impacted our ability to obtain inventory in our agency and merchant air businesses, reduced discounts for merchant air tickets and limited supply of merchant air tickets for use in our package travel offerings.

     As a result of these industry dynamics and reduced economics relating to recently negotiated GDS and airline agreements, Expedia’s revenue per air ticket has declined significantly since the fourth quarter of 2004, and we anticipate it will continue to decline further in 2007.

     The hotel sector has recently been characterized by robust demand and constrained supply, resulting in increasing occupancy rates and average daily rates (“ADRs”). Industry experts expect demand growth to continue to outstrip supply through at least 2007. While increasing ADRs generally have a positive effect on our merchant hotel operations as our remuneration increases proportionally with the room price, higher ADRs can impact underlying demand, and higher occupancies can restrict our ability to obtain merchant hotel room allocation, particularly in high occupancy destinations popular with our travel base, including our three largest markets in Las Vegas, New York and Orlando. Higher occupancy also has historically tended to drive lower margins as hotel room suppliers have less need for third-party intermediaries to generate demand. A large number of our contracts with major chain hotel operators are scheduled for renewal in 2007.

     Increased usage and familiarity with the internet has driven rapid growth in online penetration of travel expenditures. According to PhoCusWright, an independent travel, tourism and hospitality research firm, in 2006 49% of leisure, unmanaged and corporate travel expenditures occurred online in the United States, compared with 22% of European travel and 12% in the Asia Pacific region. These penetration rates have increased considerably over the past few years, and are expected to continue growing. This significant growth has attracted many competitors to online travel. This competition has intensified in recent years, and the industry is expected to remain highly competitive for the foreseeable future.

     In addition to the growth of online travel agencies, airlines and lodging companies have aggressively pursued direct online distribution of their products and services over the last several years, with supplier growth outpacing online growth since 2002.

     Differentiation among the various website offerings have narrowed in the past several years, and the travel landscape has grown extremely competitive, with the need for competitors to generally differentiate their offerings on features other than price.

Business Strategy

     We play a fundamental role in facilitating travel, whether for leisure or business. We are committed to providing our travelers the best set of resources to serve their travel needs by taking advantage of our critical assets — our brand portfolio, our technology and commitment to continuous innovation, our global reach and our breadth of product offering. In addition, we take advantage of our growing base of knowledge about our destinations, suppliers and travelers based on our unique position in the travel value chain.

     A discussion of the critical assets that we leverage in achieving our business strategy follows:

     Portfolio of Travel Brands. We seek to appeal to the broadest possible range of travelers and suppliers through our collection of industry-leading brands. We target several different demographics, from the value-conscious traveler through our Hotwire brand to luxury travelers seeking a high-touch, customized vacation package through our Classic Vacations brand. We believe our flagship Expedia brand appeals to the broadest range of travelers, with our extensive product offering and facilitation of single item bookings of discounted product to complex bundling of higher-end travel packages. Our Hotels.com site and its international versions target travelers with premium content about lodging properties, and generally appeal to travelers with shorter booking windows who prefer to drive to their destinations.

     Technology and Continuous Innovation. Expedia has an established tradition of innovation, from Expedia.com’s inception as a division of Microsoft, to our introduction of more recent innovations such as our ThankYou Rewards Network offered in conjunction with Citigroup, Traveler Hotel Reviews, Expedia^® Fare Alerts, Travel Ticker^tm by Hotwire^®, TripAdvisor’s traveler and supplier videos and ECT’s business intelligence toolset.

     We intend to continue to aggressively innovate on behalf of our travelers and suppliers, including our current efforts to build a scaleable, service-oriented technology platform for our travelers, which will extend across our portfolio of brands. We expect this to result in improved flexibility and will allow faster innovation. This transition should allow us to improve our site merchandising, browse and search functionality and add significant personalization features. We expect this transition to occur in a phased approach, with a portion of our worldwide points of sale migrating to the new platform beginning in 2007.

     For our suppliers, we have developed proprietary technology that streamlines the interaction between some of our websites and hotel central reservation systems, making it easier for hotels to manage reservations made through our brands. We began offering more streamlined application programming interfaces for our lodging partners in 2007, to enable faster and simpler integration of real-time hotel content.

     Global Reach. In 2006, international gross bookings accounted for approximately 26% of worldwide gross bookings and 28% of revenue. We currently operate over 50 branded points of sale across the globe, including Expedia-branded sites in the United States, Australia, Canada, Denmark, France, Germany, Italy, Japan, the Netherlands, Norway, Spain, Sweden and the United Kingdom. Our Hotels.com and TripAdvisor brands also maintain both U.S. points of sale and additional points of sale outside the United States. We also offer Chinese travelers a wide array of products and services through our majority ownership in eLong.

     We intend to continue investing in and growing our existing international points of sale, including the expected launch of an Expedia-branded site in India in 2007. We anticipate launching points of sale in additional countries where we find large travel markets and rapid growth of online commerce.

     ECT currently conducts operations in the United States, Belgium, Canada, France, Germany and the United Kingdom. We believe the corporate travel sector represents a large opportunity for Expedia, and we believe we offer a compelling technology solution to small and medium-sized businesses seeking to control travel costs and improve their employees’ travel experiences. We intend to continue investing in and expanding the geographic footprint of our ECT business.

     In expanding our global reach, we are leveraging our significant investment in technology, operations, brand building, supplier integration and relationships and other areas since the launch of Expedia.com in 1996. We intend to continue leveraging this investment when launching points of sale in new countries, introducing website features, adding supplier products and services or adding value-added content for travelers.

     Breadth of Product Offering. We believe we offer a comprehensive array of innovative travel products and services to travelers. We plan to continue improving and growing these offerings, as well as expand them to our worldwide points of sale over time.

     The majority of our revenue comes from transactions involving the booking of hotel reservations and the sale of airline tickets, either as stand-alone products or as part of package transactions. We are working to grow our package business as it results in higher revenue per transaction, and we also seek to continue diversifying our revenue mix beyond core air and hotel products to car rental, destination services, cruise and other product offerings. We are also working to increase the mix of revenue from advertising we derive from parties including our travel partners and suppliers through expansion of our TripAdvisor model, as well as media enhancements across many of our other worldwide points of sale.

Seasonality

     We generally experience seasonal fluctuations in the demand for our travel products and services. For example, traditional leisure travel bookings are generally the highest in the first three quarters of the year as travelers plan and book their spring, summer and holiday travel. The number of bookings typically decreases in the fourth quarter. Because revenue in the merchant business is generally recognized when the travel takes place rather than when it is booked, revenue typically lags bookings by several weeks or longer. As a result, revenue is typically the lowest in the first quarter and highest in the third quarter. The continued growth of our international operations or a change in our product mix may influence the typical trend of our seasonality in the future.

Critical Accounting Policies and Estimates

     Critical accounting policies and estimates are those that we believe are important in the preparation of our consolidated financial statements because they require that we use judgment and estimates in applying those policies. We prepare our consolidated financial statements and accompanying notes in accordance with generally accepted accounting principles in the United States (“GAAP”). Preparation of the consolidated financial statements and accompanying notes requires that we make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the date of the consolidated financial statements as well as revenue and expenses during the periods reported. We base our estimates on historical experience, where applicable, and other assumptions that we believe are reasonable under the circumstances. Actual results may differ from our estimates under different assumptions or conditions.

     There are certain critical estimates that we believe require significant judgment in the preparation of our consolidated financial statements. We consider an accounting estimate to be critical if:

	•		It requires us to make assumptions because information was not available at the time or it included matters that were highly uncertain at the time we were making the estimate; and
	•		Changes in the estimate or different estimates that we could have selected may have had a material impact on our financial condition or results of operations.

     For additional information about our critical accounting policies and estimates, see the disclosure included in our Annual Report on Form 10-K for the year ended December 31, 2006.

     Income Taxes

     In accordance with Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes, we record income taxes under the liability method. Deferred tax assets and liabilities reflect our estimation of the future tax consequences of temporary differences between the carrying amounts of assets and liabilities for book and tax purposes. We determine deferred income taxes based on the differences in accounting methods and timing between financial statement and income tax reporting. Accordingly, we determine the deferred tax asset or liability for each temporary difference based on the enacted tax rates in effect for the years in which we expect to realize the underlying items of income and expense. We consider many factors when assessing the likelihood of future realization of our deferred tax assets, including our recent earnings experience by jurisdiction, expectations of future taxable income, and the carryforward periods available to us for tax reporting purposes, as well as other relevant factors. We may establish a valuation allowance to reduce deferred tax assets to the amount we believe is more likely than not to be realized. Due to inherent complexities arising from the nature of our businesses, future changes in income tax law, tax sharing agreements or variances between our actual and anticipated operating results, we make certain judgments and estimates. Therefore, actual income taxes could materially vary from these estimates.

     We record liabilities to address uncertain tax positions we have taken in previously filed tax returns or that we expect to take in a future tax return. The determination for required liabilities is based upon an analysis of each individual tax position, taking into consideration whether it is more likely than not that our tax positions, based on technical merits, will be sustained upon examination. For those positions for which we conclude it is more likely than not it will be sustained, we recognize the largest amount of tax benefit that is greater than 50 percent likely of being realized upon ultimate settlement with the taxing authority. The difference between the amount recognized and the total tax position is recorded as a liability. The ultimate resolution of these tax positions may be greater or less than the liabilities recorded.

New Accounting Pronouncements

     For a discussion of new accounting pronouncements, see Note 2 — Summary of Significant Accounting Policies in the notes to the consolidated financial statements.

Segments

     We have two reportable segments: North America and Europe. We determined our segments based on how our chief operating decision makers manage our business, make operating decisions and evaluate operating performance.

     Our North America segment provides a full range of travel services to customers in the United States, Canada and Mexico. This segment operates through a variety of brands including Classic Vacations, Expedia, Hotels.com, Hotwire.com and TripAdvisor.

     Our Europe segment provides travel services primarily through localized Expedia websites in Denmark, France, Germany, Italy, the Netherlands, Norway, Spain, Sweden and the United Kingdom, as well as localized versions of Hotels.com in various European countries.

     Corporate and Other includes ECT, Expedia Asia Pacific and unallocated corporate functions and expenses. ECT provides travel products and services to corporate customers in North America and Europe. Expedia Asia Pacific provides online travel information and reservation services primarily through eLong in the People’s Republic of China, localized Expedia websites in Australia and Japan, whose site launched in November 2006, as well as localized versions of Hotels.com in various Asian countries.

Operating Metrics

     Our operating results are affected by certain metrics that represent the selling activities generated by our travel products and services. As travelers have increased their use of the internet to book their travel arrangements, we

have seen our gross bookings increase, reflecting the growth in the online travel industry and our business acquisitions. Gross bookings represent the total retail value of transactions booked for both agency and merchant transactions, recorded at the time of booking reflecting the total price due for travel by travelers, including taxes, fees and other charges, and are generally not reduced for cancellations and refunds.

Gross Bookings and Revenue Margin

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
Gross Bookings
North America		$	3,558,938			$	3,521,638				1	%
Europe			1,031,646				779,944				32	%
Corporate and Other			425,398				346,625				23	%
Total gross bookings		$	5,015,982			$	4,648,207				8	%
Revenue Margin
North America			11.4	%			10.8	%
Europe			10.7	%			10.9	%
Corporate and Other			8.0	%			7.7	%
Total revenue margin			11.0	%			10.6	%

     Gross bookings increased $367.8 million, or 8%, for the three months ended March 31, 2007 compared to the same period in 2006. For the three months ended March 31, 2007, North America gross bookings increased 1% and Europe gross bookings increased 32% compared to the same period in 2006.

     Revenue margin, which is defined as revenue as a percentage of gross bookings, increased 35 basis points for the three months ended March 31, 2007 compared to the same period in 2006. For the three months ended March 31, 2007, revenue margin increased 57 basis points in our North America segment and decreased 27 basis points in our Europe segment compared to the same period in 2006. The increase in worldwide and North America revenue margin was primarily due to higher merchant hotel raw margin (defined as hotel net revenue as a percentage of hotel gross revenue), as compared to the three months ended March 31, 2006, and an increased mix of advertising revenue, partially offset by the decline in revenue per air ticket. Europe revenue margin decreased in part due to a 12% increase in airfares compared with a 1% decrease in North America airfares, as our remuneration generally does not vary with the price of air tickets.

Results of Operations

Revenue

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
North America		$	406,401			$	381,925				6	%
Europe			109,990				85,268				29	%
Corporate and Other			34,120				26,705				28	%
Total revenue		$	550,511			$	493,898				11	%

     Revenue increased for the three months ended March 31, 2007, compared to the same period in 2006, primarily due to increases in worldwide merchant hotel revenue and advertising revenue, partially offset by a decline in our North America air revenue.

     Worldwide merchant hotel revenue increased 17% for the three months ended March 31, 2007, compared to the same period in 2006. The increase was primarily due to a 13% increase in revenue per room night as well as a 3% increase in room nights stayed, including rooms delivered as a component of vacation packages. Revenue per room night increased due to a 9% increase in worldwide ADRs and an increase in hotel raw margins.

     Worldwide air revenue decreased 16% for the three months ended March 31, 2007, compared to the same period in 2006, due to a 20% decrease in revenue per air ticket partially offset by an increase of 5% in air tickets sold. The decrease in revenue per air ticket reflects decreased compensation from air carriers and GDS providers. Packages revenue decreased 2% compared with the prior year period due to lower North America package volumes and lower worldwide revenue per air ticket.

     The remaining worldwide revenue other than merchant hotel and air discussed above, which includes advertising, car rental, destination services, and cruise, increased by 35% for the three months ended March 31, 2007, compared to the same period in 2006, primarily due to an increase in advertising revenue and car rental revenue.

Cost of Revenue and Gross Profit

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
Cost of revenue		$	121,298			$	119,314				2	%
% of revenue			22.0	%			24.2	%
Gross profit		$	429,213			$	374,584				15	%
% of revenue			78.0	%			75.8	%

     Cost of revenue increased for the three months ended March 31, 2007, compared to the same period in 2006, primarily due to higher costs associated with the increase in transaction volumes.

     Gross profit increased for the three months ended March 31, 2007, compared to the same period in 2006, primarily due to increased revenue. Gross margin increased primarily due to the same factors contributing to our increased revenue margin, as well as cost savings from our productivity initiatives.

Selling and Marketing

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
Selling and marketing		$	222,268			$	201,026				11	%
% of revenue			40.4	%			40.7	%

     Selling and marketing expenses increased, compared to the same period in 2006, primarily due to increased marketing spend in Europe including brand and search engine marketing efforts, as well as higher indirect costs.

     We expect absolute amounts spent on selling and marketing to increase in 2007. The direction of selling and marketing expense as a percentage of revenue in 2007 will primarily depend on our ability to drive efficiencies in our various marketing spends as well as geographic and product mix of our resulting revenue.

General and Administrative

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
General and administrative		$	76,163			$	73,361				4	%
% of revenue			13.8	%			14.9	%

     General and administrative expense increased, compared to the same period in 2006, primarily due to higher legal fees, partially offset by a reduction in payroll tax related items and stock-based compensation. We expect general and administrative expense to increase in absolute dollars but decrease as a percentage of revenue for the full year of 2007 versus 2006.

Technology and Content

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
Technology and content		$	42,252			$	35,544				19	%
% of revenue			7.7	%			7.2	%

     Technology and content expense increases in absolute costs and as a percentage of revenue were primarily due to growth in personnel-related expenses in our software development and engineering teams as we increase our level of website innovation and increased amortization of capitalized software development costs, a significant amount of which was placed into service starting in the fourth quarter of 2006 and the first quarter of 2007.

     Given our historical and ongoing investments in our enterprise data warehouse, new platform, geographic expansion, site merchandising, content management, corporate travel, supplier integration and other initiatives, which we expect to continue to put into service throughout 2007 and 2008, we expect technology and content expense to increase in absolute dollars and as a percentage of revenue for both 2007 and 2008.

Amortization of Intangible Assets

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
Amortization of intangible assets		$	21,196			$	30,171				(30	%)
% of revenue			3.9	%			6.1	%

     Amortization of intangible assets decreased for the three months ended March 31, 2007, compared to the same periods in 2006, due to the completion of amortization related to certain technology and supplier intangible assets over the past year, partially offset by amortization related to new business acquisitions.

Amortization of Non-Cash Distribution and Marketing

     In 2006, we had substantially utilized all media time we received from IAC in conjunction with the Spin-Off, with an original value of $17.1 million.

Operating Income

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
Operating income		$	67,334			$	26,242				157	%
% of revenue			12.2	%			5.3	%

     Operating income increased for the three months ended March 31, 2007, compared to the same period in 2006, due to an increase in gross profit and a general decrease in operating expenses as a percentage of revenue, including stock-based compensation, amortization of intangibles, and amortization of non-cash distribution and marketing, with the exception of technology and content expense which grew as a percentage of revenue.

Operating Income Before Amortization (“OIBA”)

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
OIBA		$	104,390			$	88,402				18	%
% of revenue			19.0	%			17.9	%

     The increase in OIBA for the three months ended March 31, 2007, compared to the same period in 2006, was primarily due to an increase in gross profit, partially offset by growth in technology and content expenses as a percentage of revenue.

Definition of OIBA

     We provide OIBA as a supplemental measure to accounting principles generally accepted in the United States (“GAAP”). We define OIBA as operating income plus: (1) amortization of non-cash distribution and marketing expense, (2) stock-based compensation expense, (3) amortization of intangible assets and goodwill and intangible asset impairment, if applicable and (4) certain one-time items, if applicable.

     OIBA is the primary operating metric used by which management evaluates the performance of our business, on which internal budgets are based, and by which management is compensated. Management believes that investors should have access to the same set of tools that management uses to analyze our results. This non-GAAP measure should be considered in addition to results prepared in accordance with GAAP, but should not be considered a substitute for, or superior to, GAAP. We endeavor to compensate for the limitation of the non-GAAP measure presented by also providing the comparable GAAP measures, GAAP financial statements, and descriptions of the reconciling items and adjustments, to derive the non-GAAP measure. We present a reconciliation of this non-GAAP financial measure to GAAP below.

     OIBA represents the combined operating results of Expedia, Inc.’s businesses, taking into account depreciation, which we believe is an ongoing cost of doing business, but excluding the effects of other non-cash expenses that may not be indicative of our core business operations. We believe this measure is useful to investors for the following reasons:

	•		It corresponds more closely to the cash operating income generated from our core operations by excluding significant non-cash operating expenses;
	•		It aids in forecasting and analyzing future operating income as stock-based compensation, non-cash distribution and marketing expenses and intangible assets amortization, assuming no subsequent acquisitions, are likely to decline going forward; and

•

It provides greater insight into management decision making at Expedia, as OIBA is our primary internal metric for evaluating the performance of our business.

     OIBA has certain limitations in that it does not take into account the impact of certain expenses to our consolidated statements of income, including stock-based compensation, non-cash payments to partners, acquisition-related accounting and certain one-time items, if applicable. Due to the high variability and difficulty in predicting certain items that affect net income, such as tax rates, stock price and interest rates, we are unable to provide a reconciliation to net income on a forward-looking basis without unreasonable efforts.

Reconciliation of OIBA to Operating Income and Net Income

     The following table presents a reconciliation of OIBA to operating income and net income for the three months ended March 31, 2007 and 2006:

		Three months ended
		March 31,
		2007				2006
		(in thousands)
OIBA		$	104,390			$	88,540
Amortization of intangible assets			(21,196	)			(30,171	)
Stock-based compensation			(15,860	)			(23,887	)
Amortization of non-cash distribution and marketing			—				(8,240	)
Operating income			67,334				26,242
Interest income (expense), net			(3,907	)			1,703
Other, net			(5,495	)			3,657
Provision for income taxes			(23,612	)			(9,658	)
Minority interest in loss of consolidated subsidiaries, net			456				1,391
Net income		$	34,776			$	23,335

Interest Income and Expense

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
Interest income		$	7,269			$	3,601				102	%
Interest expense			(11,176	)			(1,898	)			489	%

     Interest income increased for the three months ended March 31, 2007, compared to the same period in 2006, primarily due to higher cash and cash equivalent balances as well as higher interest rates.

     Interest expense increased for the three months ended March 31, 2007, compared to the same period in 2006, due to interest expense related to the $500.0 million senior unsecured notes (the “Notes”) that we issued in August 2006. We expect interest expense to continue to increase for fiscal 2007 as the Notes will have been outstanding for a full year.

Other, Net

		Three months ended March 31,
		2007				2006				% Change
		($ in thousands)
Other, net		$	(5,495	)		$	3,657				(250	%)