ORBITZ INC - 10-Q Quarterly Report

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

DELAWARE (STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION)		52-2237052 (I.R.S. EMPLOYER IDENTIFICATION NO.)
200 S. WACKER DRIVE, SUITE 1900 CHICAGO, ILLINOIS (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)		60606 (ZIP CODE)

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. ý Yes o No

Indicate by check mark whether the registrant is an accelerated filer o Yes ý No

As of July 29, 2004 the registrant had outstanding 14,011,969 shares of Class A common stock, $0.001 par value, and 27,173,461 shares of Class B common stock, $0.001 par value.

			Page Number
PART I. FINANCIAL INFORMATION
Item 1.	Financial Statements		3
Condensed Consolidated Balance Sheets as of June 30, 2004 (Unaudited) and December 31, 2003		3
Consolidated and Combined Statements of Operations for the three and six months ended June 30, 2004 and 2003 (Unaudited)		4
Consolidated Statement of Equity and Comprehensive Income for the six months ended June 30, 2004 (Unaudited)		5
Consolidated and Combined Statements of Cash Flows for the six months ended June 30, 2004 and 2003 (Unaudited)		6
Notes to Unaudited Condensed Consolidated and Combined Financial Statements		7
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations		14
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		42
Item 4.	Controls and Procedures		42
PART II. OTHER INFORMATION
Item 1.	Legal Proceedings		44
Item 2.	Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities		44
Item 3.	Defaults Upon Senior Securities		44
Item 4.	Submission of Matters to a Vote of Security Holders		44
Item 5.	Other Information		45
Item 6.	Exhibits and Reports on Form 8-K		45
SIGNATURES		46
Exhibit Index		47

ORBITZ, INC. AND SUBSIDIARIES

Condensed Consolidated Balance Sheets

(In thousands, except share and per share data)

See accompanying notes to condensed consolidated and combined financial statements.

ORBITZ, INC. AND SUBSIDIARIES

Consolidated and Combined Statements of Operations

(In thousands, except per share amounts)

(Unaudited)

See accompanying notes to condensed consolidated and combined financial statements.

ORBITZ, INC. AND SUBSIDIARIES

Consolidated Statement of Equity and Comprehensive Income

(In thousands, except share amounts)

See accompanying notes to condensed consolidated and combined financial statements.

ORBITZ, INC. AND SUBSIDIARIES

Consolidated and Combined Statements of Cash Flows

(In thousands)

(Unaudited)

See accompanying notes to condensed consolidated and combined financial statements.

ORBITZ, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated and Combined Financial Statements

(unaudited)

Orbitz, Inc. and Subsidiaries (collectively referred to as Orbitz, the Company, we, us and our) is an online travel company that enables customers to search for and purchase a broad array of travel products, including airline tickets, lodging, car rentals, cruises and vacation packages through its website, orbitz.com. We sell these travel products both individually and as part of packaged trips to leisure and corporate customers located primarily in the United States. We also offer access to travel news and other information of interest to travelers on our website.

We generate the majority of our revenues from payments from the travel suppliers whose services we sell, from the distribution and reservation services we utilize and from customers who purchase travel on our website. We also generate revenues from other sources, such as from companies that advertise and sell travel-related products on our website. Additionally, we license components of our technology to selected airlines as a platform for their websites and provide ongoing website hosting services to these airlines.

Orbitz, LLC was formed on February 24, 2000 as a Delaware limited liability company. The original investors and founders of Orbitz, LLC were Continental Airlines, Delta Air Lines, Northwest Airlines, and United Air Lines. American Airlines joined as an investor of Orbitz, LLC on May 9, 2000. Collectively, these five investors are referred to as the "Founding Airlines."

Orbitz, Inc. was incorporated in the state of Delaware on May 4, 2000 and was initially owned by the Founding Airlines. Orbitz, Inc. joined the Founding Airlines as a member of Orbitz, LLC.

On December 18, 2003, we formed a wholly owned subsidiary, O Holdings Inc., a Delaware corporation, and contributed 3,700,000 Class C Units in Orbitz, LLC to O Holdings Inc. In addition, on December 19, 2003, immediately prior to the closing of our initial public offering ("IPO") pursuant to an agreement among us and each of the holders of Class B common stock, our Founding Airlines or their affiliates contributed all their membership interests in Orbitz, LLC to us in exchange for an aggregate of 8,180,000 shares of Class A common stock, an aggregate of 27,262,980 shares of Class B common stock and an aggregate of 434,782 shares of redeemable Series A non-voting convertible preferred stock. As a result of the foregoing transactions, Orbitz, LLC is 99% owned by us and 1% owned by our wholly owned subsidiary, O Holdings Inc. We act as the sole manager of Orbitz, LLC. This transaction is referred to as the "IPO Exchange." Additionally, concurrent with the IPO Exchange, all shares of Class C common stock were converted to shares of Class A common stock.

On December 19, 2003, we consummated an IPO of our Class A common stock. We sold 4,000,000 shares of Class A common stock at an offering price of $26.00 per share and received net proceeds of $93.7 million. The Founding Airlines sold an aggregate of 8,180,000 shares in the IPO; however, we did not receive any proceeds from the sale of these shares.

Our interim condensed consolidated and combined financial statements are unaudited and should be read in conjunction with the audited consolidated and combined financial statements for the year ended December 31, 2003 contained in our Annual Report on Form 10-K ("Annual Report"). In our opinion, all adjustments necessary for a fair presentation of such condensed consolidated and combined financial statements, consisting only of normal recurring items, have been included. Interim results are not necessarily indicative of results for a full year. The interim condensed consolidated and combined

financial statements and related notes are presented as permitted by the Securities and Exchange Commission and do not contain certain information included in our audited consolidated and combined financial statements.

The accompanying financial statements present the condensed consolidated financial position, results of operations and cash flows of Orbitz, Inc. and Subsidiaries and the combined financial results of Orbitz, Inc. and Orbitz, LLC as further discussed below. All intercompany transactions have been eliminated in all periods presented.

Before the IPO Exchange, the financial statements presented the combined financial position, results of operations and cash flows of Orbitz, Inc. and Orbitz, LLC. Subsequent to the IPO Exchange, the financial statements present the consolidated financial position, results of operations, and cash flows of Orbitz, Inc., O Holdings, Inc., and Orbitz, LLC.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. On an ongoing basis, management reviews its estimates, including those related to allowances for doubtful accounts, asset lives and reserves for credit card fraud losses, debit memos, net deferred tax assets and litigation based on currently available information. Changes in facts and circumstances may result in revised estimates and such revisions could be material.

See Note 2 to the Consolidated and Combined Financial Statements in our Annual Report for a summary of all significant accounting policies. Other than our policy for accounting for investments discussed below, there have been no new policies or changes in our significant accounting policies during the six months ended June 30, 2004.

We classify marketable debt securities included in short-term and long-term investments as available-for-sale. The securities consist of investment grade, interest bearing corporate and government securities and are stated at fair value, with net unrealized gains or losses on the securities recorded as accumulated other comprehensive income (loss) in shareholders' equity. Realized gains and losses are included in earnings and are derived using the specific identification method for determining the cost of the securities. There were no realized gains or losses in the three or six months ended June 30, 2004. We did not hold marketable securities during 2003.

We have two stock-based compensation plans, which are more fully described in Note 10 to the Consolidated and Combined Financial Statements in our Annual Report. We account for these plans in accordance with the provisions of Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. Under APB No. 25, compensation expense is based on the difference, if any, on the measurement date, between the estimated fair value of the Company's stock and the exercise price of options to purchase that stock. Stock-based compensation expense is recognized on a straight-line basis over the vesting period of the equity award.

A new measurement date for stock awards occurred as a result of the restructuring transaction discussed in Note 10 to the Consolidated and Combined Financial Statements in our Annual Report. Total compensation expense related to this new measurement date, net of subsequent forfeitures, was $33,382,000. We began to record this compensation expense for all vested awards on consummation of the IPO Exchange. We recognized $26,474,000 of this charge in the year ended December 31, 2003 and $1,399,000 and $2,852,000 in the three and six months ended June 30, 2004, respectively. We will recognize compensation on unvested stock awards of $4,056,000 on a go-forward basis over the remaining vesting periods. Stock-based compensation on unvested awards may be reduced by forfeitures of stock awards.

Additionally, we recorded other stock-based compensation expense of $305,000 and $607,000 in the three and six months ended June 30, 2004, respectively, and $257,000 and $756,000 in the three and six months ended June 30, 2003. These charges were primarily related to issuances of restricted stock to certain executives.

The following table illustrates the effect on net income (loss) if we had applied the fair value recognition provisions of SFAS No. 123, Accounting for Stock-Based Compensation, to stock awards granted to employees (in thousands, except per share data):

The fair value of options granted was estimated as of the grant date, using the Black-Sholes method with the following weighted-average assumptions:

	Three Months Ended June 30,		Six Months Ended June 30,
	2004		2003		2004		2003
Dividend yield		—	%		—	%		—	%		—	%
Volatility		53.2	%		—	%		53.0	%		—	%
Expected life		5 yea	rs		5 yea	rs		5 yea	rs		5 yea	rs
Risk-free interest rate		3.9	%		2.6	%		3.8	%		2.6	%
Weighted average fair value	$	11.32		$	3.40		$	11.33		$	2.51

Financial Accounting Standards Board Statement No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, was issued in May 2003. This Statement establishes standards for the classification and measurement of certain financial instruments with characteristics of both liabilities and equity. The Statement also includes required disclosures for financial instruments within its scope. For the Company, the Statement was effective for instruments entered into or modified after May 31, 2003 and otherwise will be effective as of January 1, 2004, except for mandatorily redeemable financial instruments. For certain mandatorily redeemable financial instruments, the Statement will be effective for the Company on January 1, 2005. The effective date has been deferred indefinitely for certain other types of mandatorily redeemable financial instruments. The Company currently does not have any financial instruments that are within the scope of this Statement.

In November 2001, we entered into a 10-year computer reservation system and related services agreement with Worldspan that expires in October 2011. This agreement, as amended, requires that we guarantee certain levels of minimum net air and car segments to be booked each calendar quarter through Worldspan's computer reservation system. The agreement provides that these minimum levels will be waived if we cure any shortfall within the quarter or if we elect to book 100% of net air and car segments through Worldspan for that quarter. In the event that we fall short of the minimum net segments without curing the shortfall, we would be required to pay $1.78 for each segment below the specified minimum. To date, no such shortfall has occurred.

In April 2004, we entered into an agreement with Travelweb to receive access to lodging accommodation inventory to display for sale on our website. The agreement requires that Orbitz guarantee certain levels of minimum room nights for each of the calendar quarters during the term, which expires on December 31, 2005. The agreement provides that the minimum room night commitment will be waived if we elect to terminate all land-only merchant hotel programs on the website for at least one full calendar quarter following the date of termination. Should we fall short of the minimum room night guarantee without terminating our land-only merchant programs, we would be required to pay Travelweb $9 for each room night below the guaranteed minimum in calendar quarters in 2004, and $10 for calendar quarters in 2005. To date, no such shortfall has occurred.

We have an agreement with a vendor to purchase $3.0 million in computer hardware and software and professional services prior to December 2006. To date, we have made purchases of $1.7 million against this commitment.

In addition to the matters discussed above, we have certain contingencies resulting from litigation, government regulation and claims, some of which are incidental to the ordinary course of business. Management believes, after considering a number of factors, including (but not limited to) the views of legal counsel and the nature of the contingencies to which the Company is subject, that the ultimate disposition of these contingencies either cannot be determined at the present time or will not materially affect our results of operations or financial position.

We derive revenue from our Founding Airlines from ticket distribution and customer support services. Additionally, we provide Booking Engine Services and other services to certain of our Founding Airlines. For the three and six months ended June 30, 2004, the Company received total revenues from its Founding Airlines of approximately $12,603,000 and $26,266,000, respectively. For the three and six months ended June 30, 2003, the Company received total revenues from its Founding Airlines of approximately $13,399,000 and $26,147,000, respectively. Receivables outstanding from the

Founding Airlines were approximately $4,828,000 and $3,305,000 at June 30, 2004 and December 31, 2003, respectively.

As discussed in Note 3, we have an agreement with Worldspan, which was previously owned by Delta Air Lines, Northwest Airlines, and American Airlines, or their respective affiliates. On July 1, 2003, these airlines sold their interest in Worldspan and, therefore, it ceased to be a related party. Worldspan pays us incentives for air and car bookings made on our website through the Worldspan reservation system. We recognized revenues from Worldspan for the three and six months ended June 30, 2003 in the amount of $11,305,000 and $19,648,000, respectively. Worldspan was not a related party in 2004.

The Founding Airlines provide Orbitz with access to the fares and rates generally available to the public and also provide certain in-kind marketing support to the Company. In return, we rebate to the Founding Airlines a portion of the booking incentives received from the reservation system provider. Such rebates amounted to $3,164,000 and $5,440,000 for the three and six months ended June 30, 2004, respectively, and $2,919,000 and $5,718,000 for the three and six months ended June 30, 2003, respectively, and are included as a component of cost of revenue in the accompanying consolidated and combined statements of operations. The related payables outstanding to the Founding Airlines totaled approximately $3,288,000 and $2,810,000 at June 30, 2004 and December 31, 2003, respectively.

On November 25, 2003, we entered into a tax agreement with our Founding Airlines or their affiliates governing the allocation of the approximately $333,642,000 of tax benefits that are attributable to the taxable IPO Exchange. For each tax period during the term of the tax agreement, we have agreed to pay to our Founding Airlines or their affiliates 87% of the amount of any tax benefit we actually realize as a result of the additional deductions. Such tax sharing expense, which has not been paid as of June 30, 2004, was $967,000 for the three and six months ended June 30, 2004.

On August 1, 2001, we entered into an alliance agreement with Hotwire, which was previously owned by our Founding Airlines or their respective affiliates, among others, to offer reciprocal co-marketing links between our website and Hotwire's website. On November 5, 2003, the Founding Airlines sold their interests in Hotwire and therefore, Hotwire ceased to be a related party. We recognized other revenues from Hotwire, primarily for advertising on our website, of $1,751,000 and $3,287,000 for the three and six months ended June 30, 2003, respectively. Additionally, we recorded sales and marketing expense related to our alliance agreement with Hotwire of $266,000 and $434,000 for the three and six months ended June 30, 2003. Hotwire was not a related party in 2004.

We have an outstanding loan to the Chairman, President and Chief Executive Officer of the Company, evidenced by a promissory note and stock pledge agreement executed in 2001. The loan is secured by a pledge of 83,333 shares of common stock of Orbitz. The note accrues interest at a rate equal to the applicable Federal Rate, and is adjusted and compounded semi-annually. As of June 30, 2004 and December 31, 2003, the amount outstanding, including accrued interest, was $273,000 and $269,000, respectively, and is included in other long-term assets on the accompanying condensed consolidated balance sheets.

Basic earnings per share is computed by dividing income available to common shareholders, as determined under the two-class method, by the weighted average number of common shares outstanding. Our preferred stock agreement provides that the holders of Series A preferred stock shall be entitled to receive dividends at the rate of 3% per annum payable in preference and priority to any payment of dividends on any junior stock. Additionally, if the Company issues or pays holders of junior stock, in any consecutive 12-month period, a dividend in excess of 5% of the face value of the Series A preferred stock, then the holders of Series A preferred stock shall be entitled to share equally in dividends over the 5% threshold.

Diluted earnings per share reflects the potential dilution that could occur based on the effect of unvested restricted Class A common stock and the exercise of stock options with an exercise price of less than the average market price of our common stock.

Before the December 2003 IPO Exchange, ownership in the enterprise was reflected primarily through membership in Orbitz, LLC, with only a small number of outstanding shares in Orbitz, Inc. The financial statements of Orbitz, Inc. and Orbitz, LLC were presented on a combined basis; accordingly, there was no single capital structure upon which to calculate historical earnings per share information. In addition, management has determined that presentation of actual net loss per share of Orbitz, Inc. for 2003 and prior periods is not meaningful and, therefore, has elected to present only pro forma net loss per share for those periods.

Pro forma net loss per share is calculated based on the weighted average number of shares outstanding assuming that all units held by members in Orbitz, LLC had been converted to shares in Orbitz, Inc. as of the date such units were issued and the automatic conversion of Class C common stock to Class A common stock that occurred immediately prior to the IPO. Pro forma net loss to common shareholders reflects charges for dividends and accretion on the preferred stock as if it had been outstanding at the beginning of each period presented.

Actual earnings per share and pro forma net loss per share is calculated as follows for the three and six months ended June 30 (in thousands, except per share amounts):

As part of our IPO Exchange that is more fully discussed in our Annual Report filed on Form 10-K, we realized a step-up in the tax basis of our net assets, which we are allowed to amortize over 15 years for income tax purposes. This amortization reduces our taxable income, and under the terms of our tax sharing agreement, we agreed to share 87% of the tax savings we actually realize with our Founding Airlines. During the three and six months ending June 30, 2004, the 87% portion of the tax savings realized amounted to $967,000 and is included as a component of net income before provision for income taxes on our consolidated and combined statements of income.

We did not record a provision for income taxes for the three or six months ended June 30, 2004, as the Company had no taxable income after deducting the step-up amortization and has a full valuation allowance related to its net deferred tax assets.

	Three Months Ended June 30,						Six Months Ended June 30,
	2004			2003			2004			2003
Net income (loss)	$	10,350		$	(2,940	)	$	12,210		$	(5,326	)
Unrealized losses on marketable securities		(615	)		—			(579	)		—

Comprehensive income (loss)	$	9,735		$	(2,940	)	$	11,631		$	(5,326	)

Accumulated other comprehensive loss consists solely of unrealized losses on marketable securities.

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated and combined financial statements and the related notes thereto appearing elsewhere in this report and in our Annual Report filed with the Securities and Exchange Commission. This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors.

We launched our travel services website to the general public in June 2001 and since then, have grown to be one of the top 10 travel agencies in the United States as measured by gross travel bookings. Since our launch, we have become well-known for the ease-of-use of our website, featuring our proprietary air matrix which typically shows more itineraries and airlines per search than any other travel agency and displays unbiased air results that do not favor any supplier. We extended our easy-to-use website by launching matrix shopping display technology for our hotel, car, vacation, cruise and travel-related products. We also offer a unique customer care program, which provides proactive care updates and services to our travelers. Additionally, we have introduced technology services for our suppliers, such as Supplier Link and Booking Engine Services and were the first online travel agency to initiate a corporate travel offering.

Throughout the remainder of 2004, we intend to add to and enhance our capabilities in non-air travel products and other services, including:

Our results in the first half of 2004 reflect increased bookings that demonstrate the continued migration of travelers to online travel agencies. Our gross travel bookings increased by 29% over the same period of the prior year, with growth in all of our major product offerings. At the same time, we saw our gross profit margin improve to 73% for the first six months of 2004 from 66% during the first six months of 2003, while income from operations rose to $11.9 million through June 30, 2004 from an operating loss of $5.7 million for the same period in 2003. We achieved our seventh consecutive quarter of positive cash flow from operations, generating $30.9 million in cash flows from operations in the first six months of 2004.

While we are satisfied with the overall health and profitability of our business, we were disappointed in our slower than expected growth in hotel and air revenues, caused by a number of issues that were primarily operational in nature. Our hotel results were below expectations due to merchant mix (the percentage of prepaid hotel transactions to total hotel transactions) and volume, which fell below our forecasted levels. This was due primarily to ineffective display management and internal and third party system issues, which constrained hotel transactions during the period. Two items negatively impacted our air volume, which has grown when compared to the prior year, but was below our expected levels. As summer air traffic increased, we saw fewer fare sales, which we believe have typically stimulated our bookings. Coinciding with this increased demand, results were affected by certain airlines tightening their yield management efforts through a methodology called Journey Control Logic (JCL). JCL is a method whereby the airline tends to make more inventory available for point-to-point passengers (and fares) rather than connecting passengers and impacts all travel agencies. However, several airlines' JCL implementations surfaced interface errors between the airlines' inventory systems and that of our search engine provider. The result was that in some cases, Orbitz actually reduced the number of flight options available to an Orbitz customer beyond what was made available to us by the supplier. We have already begun implementing detailed solutions to these issues.

The remainder of 2004 will see continued focus on Orbitz Merchant Hotel, Dynamic Packaging and Orbitz for Business. Additionally, as we increase the number of higher profit margin merchant hotel and vacation transactions, we expect to modestly ramp up our investment in marketing as a further catalyst for growth; however, we continue to believe that our more cost-efficient marketing approach is the right one, as demonstrated by our significant site traffic—especially self-directed traffic—and our strong brand awareness level. Although we do plan to increase marketing expenditures, we will continue to do so in a manner that combines efficient marketing with attractive product offerings for our customers.

We are an online travel company headquartered in Chicago, Illinois that enables our customers to search for and purchase a broad array of travel products, including airline tickets, lodging, car rentals, cruises and vacation packages. At present, we derive substantially all of our revenues from the following sources:

In presenting our condensed consolidated and combined financial statements in conformity with generally accepted accounting principles in the United States of America, we are required to make judgments, estimates and assumptions that affect the amounts reported therein. Certain of the estimates and assumptions we are required to make relate to matters that are inherently uncertain, as they pertain to future events. While we believe the estimates and assumptions used were appropriate, actual results could differ significantly from those estimates under different assumptions and conditions. Note 2 to the Consolidated and Combined Financial Statements in our Annual Report and Note 2 to the Condensed Consolidated and Combined Financial Statements contained herein describe the significant accounting policies and methods used in the preparation of the consolidated and combined financial statements.

The critical accounting policies that require particularly subjective and complex judgments that could have a material effect on our reported financial condition or results of operations are described in Management's Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report. There have not been any material changes to our critical accounting policies.

Second quarter ended June 30, 2004 compared to second quarter ended June 30, 2003

The increase in air revenues was primarily driven by a $4.8 million increase in consumer service fee revenues resulting from an increase in both business and leisure air transactions and a $1.00 increase to our per ticket service fee implemented in late June 2003. Supplier transaction fee revenues were flat year over year, with higher air transactions offset by an 11% decrease in the average supplier transaction fee per ticket.

Supplier Link revenues rose by $1.1 million, offset by a $1.4 million decrease in reservation system booking incentives, which reflects the trend of shifting more air transactions to our Supplier Link program. We receive a higher margin on Supplier Link transactions because we do not pay GDS rebates to our airline charter associates on these transactions, but we recognize lower revenues because we do not receive GDS inducement payments. Supplier Link represented 39% of air transactions in the quarter ended June 30, 2004 compared to 29% in the quarter ended June 30, 2003. We expect our Supplier Link mix to stay fairly constant until our next implementation of a major carrier, which is expected to occur later in the year.

The increase in other travel revenues of 96% is due primarily to an $8.4 million increase in hotel revenues, mostly related to our Orbitz Merchant Hotel ("OMH") program launched in March 2003. OMH revenues represented 52% of all hotel revenues in the quarter ended June 30, 2004, compared to 12% in the quarter ended June 30, 2003, and rooms sold under this program generate significantly more revenue per transaction compared to rooms sold through other channels. Growth in hotel revenue outpaced growth in hotel transactions due to the more favorable economics of OMH bookings.

Other travel revenues also benefited from a $1.6 million increase in rental car revenues and a $0.6 million increase in vacation package revenues, driven by increases in bookings volume. In mid-February, 2004, we launched our attractions and services product, under which consumers can purchase theme park passes, museum and sight-seeing tours, airport transportation and similar products. Revenues from this product line were not significant in the quarter ended June 30, 2004.

Other revenues benefited from increases in all major product lines in the category, led primarily by increases of $0.4 million from advertising revenue and $0.6 million from commissions for sales driven by sponsoring links on our website.

Gross profit rose 40% to $55.8 million for the quarter ended June 30, 2004, versus $39.8 million in the same period of 2003. The gross margin was 74% in the second quarter of 2004, compared with 68% in the second quarter of 2003, primarily because we shifted our mix into higher margin non-air products. Revenues from non-air travel products represented 29% of total revenues in the quarter ended June 30, 2004, compared to 19% in the same period of 2003. Additionally, our rebate costs decreased by 25% due to the shift to Supplier Link, and we incurred lower per transaction customer service costs. We have achieved savings in our customer service costs by allowing our call center service vendor to route e-mail questions and certain leisure travel calls through a call center in India and by reducing incoming calls through enhanced interactive voice response systems and self-service online capabilities, such as online exchange.

Cost of revenues increased 7% in absolute dollars to $19.8 million for the quarter ended June 30, 2004 from $18.5 million for the same period of 2003, primarily attributable to a $0.9 million increase in credit card processing fees resulting from higher transaction volumes in the Orbitz Merchant Hotel program and a $0.5 million increase in costs associated with our credit card loyalty program. We record a liability for the maximum value of all points earned under the credit card loyalty program; the actual value of points redeemed under the program could be less than the amount recorded.

Sales and marketing expense increased primarily due to a $1.4 million increase in salaries and benefits related to additional personnel and a $1.0 million rise in professional services fees related primarily to our additional sales efforts for Orbitz for Business. These increases were partly offset by a $1.3 million drop in marketing fees due to lower spending related to traditional advertising channels. We expect to increase our marketing investment modestly in the latter half of the year.

	Three Months Ended June 30,
	2004		2003		$ Change		% Change
	(dollars in thousands)
Technology and development	$	7,091		$	7,545		$	(454	)	(6	)%
% of revenues, net		9	%		13	%

Technology and development costs decreased in the second quarter of 2004 as compared to the second quarter of 2003, due mostly to lower depreciation expense of $0.6 million as the software and hardware from the initial site build-out become fully depreciated.

General and administrative costs were flat year over year, as decreased spending in legal services was offset by increased insurance and other costs related to being a public company.

In connection with the April 2002 Restructuring described in our Annual Report, all options to purchase Class C nonvoting common stock were automatically converted to options to purchase Class A common stock. This conversion was deemed to be a new grant for all options outstanding at the restructuring date, resulting in non-cash stock-based compensation expense totaling $33.4 million. To date, we have recorded $29.4 million of this expense, and the remaining expense will be recorded as the options vest over the remainder of 2004, 2005 and 2006. This charge accounted for $1.4 million of the total stock-based compensation expense for the quarter ended June 30, 2004 and none of the stock-based compensation expense for the quarter ended June 30, 2003.

Interest income increased due to a significant increase in our average cash and investment balances following our December 2003 IPO.

As part of our IPO Exchange, we realized a step-up in the tax basis of our net assets, which we are allowed to amortize over 15 years for income tax purposes. This amortization reduces our taxable income and under the terms of our tax sharing agreement, we agreed to share 87% of the tax savings we actually realize with our Founding Airlines. During the quarter ended June 30, 2004, the 87% portion of the tax savings realized amounted to approximately $1.0 million and is included in net

income before provision for income taxes on our consolidated and combined statements of operations. Without this amortization, we would have had income tax expense for the quarter.

Prior to the IPO Exchange, no provision for Federal or state income taxes was recorded, as the primary operations of the Company resided in Orbitz, LLC, which was treated as a partnership for tax purposes. All operating losses of the partnership were allocated to the Founding Airlines, pursuant to the limited liability company agreement. Following the IPO Exchange, all operating income or loss is allocated to Orbitz, Inc., which is taxed as a C Corporation. We did not record a provision for income taxes for the quarter ended June 30, 2004, as the Company has no current taxable income after deducting the step-up amortization and has a full valuation allowance related to its net deferred tax assets.

The increase in air revenues was primarily driven by a $10.6 million increase in consumer service fee revenues resulting from an increase in both business and leisure air transactions and a $1.00

increase to our per ticket service fee implemented in late June 2003. Supplier transaction fee revenues increased by $1.2 million due to higher air transactions, offset by an 11% decrease in the average supplier transaction fee per ticket.

Also contributing to the increase in air revenues were Supplier Link revenues, which rose by $2.7 million, offsetting the $2.1 million decrease in reservation system booking incentives, which reflects the trend of shifting more air transactions to our Supplier Link program. We receive a higher margin on Supplier Link transactions because we do not pay GDS rebates to our airline charter associates on these transactions, but we recognize lower revenues because we do not receive GDS inducement payments. Supplier Link represented 40% of air transactions in the six months ended June 30, 2004 compared to 28% in the six months ended June 30, 2003. We expect our Supplier Link mix to stay fairly constant until our next implementation of a major carrier, which is expected to occur later in the year.

The increase in other travel revenues of 114% is due primarily to a $16.4 million increase in hotel revenues, mostly related to our Orbitz Merchant Hotel ("OMH") program launched in March 2003. OMH revenues represented 51% of all hotel revenues in the six months ended June 30, 2004, compared to 8% in the six months ended June 30, 2003, and, on average, rooms sold under this program generate more than three times the amount of revenue per transaction compared to rooms sold through other channels. Growth in hotel revenue outpaced growth in hotel transactions due to the more favorable economics of OMH bookings.

Other travel revenues also benefited from a $2.7 million increase in rental car revenues driven by increased bookings and a $1.7 million increase in vacation package revenues corresponding with the rollout of our dynamic packaging product. In mid-February, 2004, we launched our attractions and services product, under which consumers can purchase theme park passes, museum and sight-seeing tours, airport transportation and similar products. Revenues from this product line were not significant in the six months ended June 30, 2004.

Other revenues benefited from growth across the category, led by increases of $1.9 million in advertising revenue and$1.2 million from commissions for sales driven by sponsoring links on our website.

Gross profit rose 48% to $106.1 million for the six months ended June 30, 2004, versus $71.5 million in the same period of 2003. The gross margin was 73% for the six months ended June 30, 2004, compared with 66% in the six months ended June 30, 2003, primarily because we shifted our mix into higher margin non-air products. Revenues from non-air travel products represented 27% of total revenues in the six months ended June 30, 2004, compared to 17% in the same period of 2003. Additionally, we incurred lower per transaction customer service and fulfillment costs, and our rebate costs decreased by 16% due to the increase in Supplier Link transactions.

Cost of revenues increased 10% in absolute dollars to $39.8 million for the six months ended June 30, 2004 from $36.3 million for the same period of 2003, primarily attributable to a $1.8 million increase in credit card processing fees resulting from higher transaction volumes in the Orbitz Merchant Hotel program, a $1.0 million increase in costs associated with our credit card loyalty program and $0.8 million in salaries and benefits related to additional personnel.

Sales and marketing expense rose primarily due to a $6.2 million increase in advertising and marketing campaigns driven by increased online advertising expenditures intended to direct traffic to our website. We also experienced a $3.0 million increase in salaries and benefits related to additional personnel.

Technology and development costs increased in absolute dollars in the six months ended June 30, 2004 as compared to the same period in 2003, due mostly to a $1.7 million increase in salaries and benefits related to additional personnel.

The increase in general and administrative costs is due primarily to $1.3 million for increased insurance expenses related to being a public company.

the restructuring date, resulting in non-cash stock-based compensation expense totaling $33.4 million. To date, we have recorded $29.4 million of this expense, and the remaining expense will be recorded as the options vest over the remainder of 2004, 2005 and 2006. This charge accounted for $2.9 million of the total stock-based compensation expense for the six months ended June 30, 2004 and none of the stock-based compensation expense for the six months ended June 30, 2003.

Interest income increased due to a significant increase in our average cash and investment balances following our December 2003 IPO.

As part of our IPO Exchange, we realized a step-up in the tax basis of our net assets, which we are allowed to amortize over 15 years for income tax purposes. This amortization reduces our taxable income and under the terms of our tax sharing agreement, we agreed to share 87% of the tax savings we actually realize with our Founding Airlines. During the six months ended June 30, 2004, the 87% portion of the tax savings realized amounted to approximately $1.0 million and is included in net income before provision for income taxes on our consolidated and combined statements of operations. Without this amortization, we would have an income tax expense for the period.

Prior to the IPO Exchange, no provision for Federal or state income taxes was recorded, as the primary operations of the Company resided in Orbitz, LLC, which was treated as a partnership for tax purposes. All operating losses of the partnership were allocated to the Founding Airlines, pursuant to the limited liability company agreement. Following the IPO Exchange, all operating income or loss is allocated to Orbitz, Inc., which is taxed as a C Corporation. We did not record a provision for income taxes for the six months ended June 30, 2004, as the Company has no current taxable income after deducting the step-up amortization and has a full valuation allowance related to its net deferred tax assets.

Historically, the majority of our financing was provided through contributions from our Founding Airlines and their affiliates and through lease arrangements on our equipment. Our Founding Airlines and their affiliates invested an aggregate of $214.8 million in us through August 31, 2002.

In December 2003, we raised net proceeds of $93.7 million in an IPO. The Founding Airlines sold an aggregate of 8,180,000 shares of Class A common stock in the IPO, and now own 67% of our outstanding stock and control 95% of the voting power of our common stock.

The Founding Airlines and their affiliates have no obligations to make further investments in us, and we do not anticipate that they will do so. Depending on the nature of the financing, our ability to raise capital from other sources may require the consent of two-thirds of our board of directors and the consent of the holders of three-fourths of the voting power of the Class B common stock then outstanding entitled to supervoting rights.

During the next 12 months, we intend to continue our marketing campaigns focused on the retention of existing customers and the acquisition of new customers. In addition, we plan to continue to invest in expanding our product offerings and improving our website while enhancing our technical infrastructure. We believe that our available cash and anticipated future cash flows will be sufficient to fund currently anticipated liquidity needs for the next 12 months and beyond. However, any projections of future cash inflows and outflows and any projections of the future state of the economy and travel industry conditions, which may have a direct effect on our cash inflows, are subject to substantial uncertainty. If we determine that we need to raise additional capital in the future, we may seek to sell additional equity or borrow funds. The sale of additional equity would result in dilution to our shareholders. We cannot assure you that any of these financing alternatives will be available in amounts or on terms acceptable to us, if at all. If we are unable to raise or borrow any needed additional capital, we could be required to significantly alter our operating plan, which could have a material adverse effect on our business, financial condition or results of operations.

Cash and cash equivalents and total investments were $213.1 million at June 30, 2004, an increase of $30.4 million from $182.7 million at December 31, 2003. This increase was primarily due to cash flows generated from operations.

Deferred revenue was $26.1 million at June 30, 2004 compared to $11.9 million at December 31, 2003. The increase of $14.2 million was mainly due to a $6.8 million increase in deferred revenue related to our OMH program and $2.3 million in deferred revenue related to the annual volume resetting of our Worldspan contract.

We generated cash flows from operations of $30.9 million and $6.2 million for the six months ended June 30, 2004 and 2003, respectively. In the quarter ended June 30, 2004, we generated cash flows from operations of $12.2 million compared with $5.6 million for the same period in 2003. This was our seventh consecutive quarter of positive cash flows from operations. The growth in cash flows generated from operations when comparing the six months ended June 30, 2004 to the six months ended June 30, 2003 is primarily due to improved profitability coupled with an increase in cash received on prepaid hotel reservations in advance of our payments to the hotels.

Net cash used in investing activities was $75.6 million and $4.8 million for the six months ended June 30, 2004 and 2003, respectively. Our investing activities consist primarily of the purchase of available-for-sale investment securities, which we began following our IPO. We invest mostly in investment grade, interest bearing corporate and government securities.

Cash flows from financing activities amounted to $4.0 million and $0.3 million for the six months ended June 30, 2004 and 2003, respectively. These amounts primarily related to proceeds from the exercises of stock options.

We do not have any off-balance sheet arrangements, other than the operating leases discussed in our Annual Report. There have been no material changes to our operating lease commitments since December 31, 2003.

Summary Disclosures about Contractual Obligations and Commercial Commitments

There have been no material changes that are outside the ordinary course of our business to the contractual obligations and commercial commitments that we reported in our Annual Report.

We do not currently have a borrowing facility in place. All outstanding letters of credit are secured by restricted investments. We have no available letters of credit.

In November 2001, we entered into a 10-year computer reservation system and related services agreement with Worldspan that expires in October 2011. As amended, this agreement requires that we guarantee certain levels of minimum net air and car segments to be booked each calendar quarter through Worldspan's computer reservation system. The agreement provides that these minimum levels will be waived if we cure any shortfall within the quarter or elect to book 100% of net air and car segments through Worldspan for that quarter. In the event that we fall short of the minimum net segments without curing the shortfall, we would be required to pay $1.78 for each segment below the specified minimum.

In April 2004, we entered into an agreement with Travelweb to receive access to lodging accommodation inventory to display for sale on our website. The agreement requires that Orbitz guarantee certain levels of minimum room nights for each of the calendar quarters under term, which expires on December 31, 2005. The agreement provides that the minimum room night commitment will be waived if we elect to terminate all land-only merchant hotel programs on the website for at least one full calendar quarter following the date of termination. Should we fall short of the minimum room night guarantee without terminating our land-only merchant programs, we would be required to pay Travelweb $9 for each room night below the guaranteed minimum in calendar quarters in 2004, and $10 for calendar quarters in 2005. To date, no such shortfall has occurred.

As a component of an employment agreement with Jeffrey G. Katz, our Chairman, President and Chief Executive Officer, we are obligated to make a one-time cash payment to him, at his option, in an amount calculated by multiplying 83,333 by the difference between $30.00 and the average closing price of our common stock (if less than $30.00) for the preceding 20 days on any of the following dates: (1) the first four anniversaries of July 6, 2003, (2) 30 days after the completion of our IPO, or (3) Mr. Katz's resignation or termination by us for any reason. Although he has been eligible to receive the cash payment on several occasions following the completion of our IPO, Mr. Katz has not elected to exercise the right to date.

At any time from and after December 19, 2008, the holders of the redeemable Series A non-voting convertible preferred stock have the right to require the Company to redeem the shares for cash at the Redemption Price, which is equal to the face value plus an annual accretion factor of 2.0% and any accrued but unpaid dividends. In lieu of paying the redemption price in cash, the Company may elect, in its sole option, to exchange such shares of Series A preferred stock for shares of Class A common stock having a fair market value equal to the Redemption Price. At any time from and after June 19, 2009, the Company has the right to redeem all of the Series A preferred shares for cash at the Redemption Price. Additionally, the holders of Series A preferred stock have the right to convert their shares into shares of class A common stock on a one-for-one basis at any time from and after December 19, 2008. As of June 30, 2004, the Redemption Price was $11,452,000.

Set forth below and elsewhere in this report and in other documents we file with the Securities and Exchange Commission are certain risks and uncertainties that we believe could cause actual results to differ materially from the results contemplated by the forward-looking statements contained in this report.

Because we have a limited operating history, it is difficult to evaluate our business and prospects.

Our business began operations in February 2000 and we launched our online travel service in June 2001. As a result, we have only a limited operating history from which you can evaluate our business and our prospects. We will encounter risks and difficulties frequently experienced by early-stage companies in rapidly evolving industries, such as the online travel industry. Some of these risks relate to our ability to:

If we are unsuccessful in addressing these risks or in executing our business strategy, our business, financial condition or results of operations may suffer.

Since our inception in February 2000, we have reported operating losses each year. Our operating losses were $42.9 million from the period of inception through December 31, 2000, and $105.5 million, $18.9 million and $16.9 million for the years ended December 31, 2001, 2002, and 2003, respectively. Although we reported operating income of $12.2 million for the six months ended June 30, 2004, we may continue to incur additional operating losses in the future, and cannot assure you that we will be profitable in future periods. Historically, most of our financing came through contributions from our Founding Airlines and their affiliates. The Founding Airlines and their affiliates have no obligation to make further investments in us, and we do not anticipate that they will do so.

Under our business plan, we will continue to incur significant sales and marketing expenses to expand our customer base. Accordingly, we will need to increase our revenues at a rate greater than our expenses to maintain profitability. We cannot predict whether we will maintain profitability in

future periods. If our business does not expand enough to increase our revenues sufficiently, or even if our business does expand but we are unable to manage our expenses, we may not sustain profitability in future periods.

Our growth cannot be assured. Even if we do experience growth, we cannot assure you that we will grow profitably.

Our business strategy is dependent on the growth of our business. For us to achieve significant growth, consumers and travel suppliers must accept our website as a valuable commercial tool. Consumers who have historically purchased travel products through traditional commercial channels, such as using local travel agents and booking with suppliers directly, must instead purchase these products on our website. Similarly, travel suppliers will also need to accept or expand their use of our website and to view our website as an efficient and profitable channel of distribution for their travel products.

Our growth will depend on our ability to broaden the range of travel products we offer. For the year ended December 31, 2003 and the six months ended June 30, 2004, we derived 66% and 60%, respectively, of our revenues from airline ticket sales. Our business strategy is dependent on expanding our revenues from lodging, car rentals, cruises, vacation packages, corporate travel and other travel related products. Key components of this strategy include the growth of our hotel business, particularly our Orbitz Merchant Hotel program, and the dynamic packaging product that we have developed. See "—Our business plans call for the significant growth of our hotel business, and we may be unsuccessful in managing or expanding that business". We cannot assure you that our efforts will be successful or result in increased revenues, higher margins or continued profitability.

Our growth is also dependent on our ability to broaden the appeal of our website to business and other travelers. Although we launched an Orbitz for Business service directed at corporate users in September 2002, we have had a short period of experience with corporate travel, and our ability to offer products and services that will attract a significant number of business travelers to use our services is not certain. If any of these initiatives is not successful, our growth may be limited and we may be unable to maintain profitability.

Our plans to pursue other opportunities for revenue growth and cost reduction are at an early stage, and we cannot assure you that our plans will be successful or that we will actually proceed with them as described.

Adverse changes or interruptions in our relationships with travel suppliers could affect our access to travel offerings and reduce our revenues.

We rely on charter associate agreements or other participation or commission agreements with our airline suppliers, and these agreements contain terms that could affect our access to airline inventory and reduce our revenues. In particular, our charter associate agreements with our Founding Airlines, which accounted for approximately 71% and 67% of our air supplier transaction fees during the year ended December 31, 2003 and the six months ended June 30, 2004, respectively, are terminable by each of the Founding Airlines upon 30 days notice to us, subject to the restriction set forth in the stockholders agreement that such agreements or similar commercial agreements not be terminated for a period of two years from the date of our IPO. Most of the remaining relationships we have with airline suppliers are freely terminable by the supplier, or will become so within the next year. None of these arrangements is exclusive and airline suppliers could enter into, and in some cases may have entered into, similar agreements with our competitors.

In addition, we are dependent for lodging and car rental inventory on arrangements with our lodging and car rental suppliers under which these suppliers provide us inventory and compensate us on a commission basis, or supply us with inventory on a merchant basis which we are free to mark up prior to sale. Many of these arrangements are short-term in nature and in some cases unwritten.

We cannot assure you that our arrangements with travel suppliers will remain in effect or that any of these suppliers will continue to supply us with the same level of access to inventory of travel offerings in the future. Additionally, we cannot assure you that our travel suppliers will provide us with comparable perquisites, such as room upgrades, as they offer to their customers. If our access to inventory or features is affected, or our ability to offer their inventory on comparatively favorable economic terms is diminished, it could have a material adverse effect on our business, financial condition or results of operations.

We are controlled by our Founding Airlines or their affiliates, who may have strategic interests that differ from those of our other shareholders.

Our Founding Airlines or their affiliates hold a majority of our voting power and their designees comprise a majority of our board. Our Founding Airlines may have strategic interests that are different from ours. Our Founding Airlines or their affiliates own, in the aggregate, approximately 67% of our outstanding common stock, and, through the exercise of certain supermajority voting rights accorded to them in our corporate governance documents, control approximately 95% of the voting power of all shares of voting stock.

In addition, our Founding Airlines have filed a Schedule 13G with the Securities and Exchange Commission to report their Orbitz holdings as a group. As a result, under a "controlled company" exception to Nasdaq's independence requirements, we are exempt from an obligation to maintain a majority of independent directors on our board and instead have a majority of directors affiliated with our Founding Airlines. In addition, directors affiliated with our Founding Airlines continue to oversee the director nomination and executive compensation functions.

For the foreseeable future, to the extent that some or all of our Founding Airlines or their affiliates vote similarly, they will be able to exercise control over all matters requiring approval by the board of directors or our shareholders, and this power may be expected to continue even if our Founding Airlines or their affiliates own a minority economic interest in Orbitz. As a result, they or their affiliates will be able to:

In addition, our corporate governance documents and our stockholders agreement with our Founding Airlines or their affiliates provide them with a greater degree of control and influence in the operation of our business and the management of our affairs than is typically available to shareholders of a publicly-traded company. In particular, our corporate governance documents and the stockholders agreement with our Founding Airlines or their affiliates provide that:

These restrictions could keep us from pursuing relationships with strategic partners and from raising additional capital, which could impede our ability to expand our business and strengthen our competitive position. These restrictions could also limit shareholder value by preventing a sale of Orbitz.

We are controlled by our Founding Airlines and conflicts of interest with and among them could impede our business strategy and hurt our business.

Our Founding Airlines and their affiliates will be able to act in each of their own interests, which may conflict with, or be different from, the interests of other shareholders who do not maintain a commercial relationship with Orbitz. For the foreseeable future, we expect a majority of our directors will be senior employees of our Founding Airlines. Our Founding Airlines compete with each other in the operation of their respective businesses and can be expected to have individual business interests that may conflict with those of the other Founding Airlines. Their differing interests could make it difficult for us to pursue strategic initiatives that require consensus among our Founding Airlines. In addition, our certificate of incorporation and stockholders agreement expressly provide that holders of our Class B common stock may have other business interests and may engage in any other businesses, including businesses similar to ours, except for restrictions on specified investments that expire two years after our IPO. These potential conflicts of interest could have a material adverse effect on our business, financial condition, results of operations or prospects.

Our relationships with our Founding Airlines have subjected Orbitz to significant litigation and regulatory scrutiny, which may continue.

As an enterprise founded and controlled by horizontal airline competitors, we may be subject to ongoing regulatory scrutiny of our business to a degree that is not likely to be experienced by our competitors.

During the last several years, we have been reviewed or investigated by a number of federal and state regulators. In July 2003, the Antitrust Division of the Department of Justice completed an investigation of us and our Founding Airlines that it commenced in 2000 and concluded that our business has not harmed consumers or reduced competition. In late 2002, a commission created by Congress to study the economic status of travel agents and impediments to the flow of travel information concluded its review, which included an examination of our impact on traditional travel agents and consumers, without taking action adverse to us. In December 2002, the Department of Transportation issued the results of a review of our business and operations, and did not find evidence that our operations had an anti-competitive effect on the marketplace for air travel. Our business and operations were under longstanding informal review by a working group of Attorneys General from various states, the last of which ended their inquiry in July 2003 without taking action adverse to us.

We remain at risk that other or similar regulatory investigations could commence in the future. At any time, the outcome of investigations and other regulatory scrutiny could lead to compulsory changes to our business model, industry agreements, conduct or practices or our relationships with our Founding Airlines and governmental or additional private lawsuits against us, any of which could materially harm our revenue, impair our ability to provide access to the broadest range of low fares and impact our ability to grow and compete effectively.

We expect that our competitors will continue to engage in lobbying and other activities, with the objective of generating negative publicity about us and pressing legislation or regulation that could be harmful to us. These activities may result in private or governmental litigation against us, further investigations of our business by various governmental authorities or the adoption of laws and regulations that make it more difficult for us to compete effectively, particularly as we implement new initiatives designed to enhance our competitive position.

The continued involvement of our Founding Airlines on our board of directors and as shareholders may result in litigation and regulatory scrutiny of our business. Our competitors or other third parties could file additional lawsuits alleging anti-competitive conduct against us in the future.

The activities described above may result in significant distractions to our management and could have a material adverse effect on our business, financial condition or results of operations.

Restrictions on our ability to sell air travel in an "opaque" or "biased" manner may limit our growth.

Our bylaws limit our ability to market, sell and service air travel products in an "opaque" manner and prevent us from displaying our airfares in a "biased" manner. Our bylaws also limit our ability to acquire a company that engages in either activity. "Opaque" refers to the sale of travel where the customer is not able to see one or more items of important information, such as the identity of the travel provider, or arrival or departure times, until the transaction is completed. "Bias" refers to the practice of favoring the display of one travel supplier over another on the basis of commissions paid, fee overrides or other factors unrelated to price or the customer's choice. Our charter associate agreements contain similar provisions.

Currently, our bylaws permit us to derive revenues from the sale of airline tickets in an opaque manner, but only to the extent such revenues are derived from links to opaque websites or referrals to opaque websites, and only to the extent the revenues we derive do not exceed 20% of our or our controlled affiliates' revenues from the sale of airline tickets. Under our bylaws, any change in the scope of our business to provide information concerning air travel products to customers in an opaque or biased manner requires the following approvals:

Currently, this would require approval of all of our Founding Airlines or their affiliates. These restrictions may limit our ability to expand the scope of our business and improve our margins in ways that are available to some of our competitors.

Our Founding Airlines are not prevented from selling to consumers through their own websites or third-party websites and may be able to establish new competitors to Orbitz.

Our five Founding Airlines collectively represented approximately 72% of the airline tickets sold through Orbitz and 71% of our air supplier transaction fees during the year ended December 31, 2003 and approximately 73% of the airline tickets sold through Orbitz and 67% of our air supplier

transaction fees during the six months ended June 30, 2004. Our Founding Airlines offer travel products, including Web-only fares, through their own websites and other distribution channels and offer some features, such as mileage bonus awards redemption, which we do not currently offer. Our Founding Airlines are not barred under their relationships with us from selling directly to consumers, and we believe that airlines, including the Founding Airlines, are increasingly focused on using their own web sites as a means for selling tickets. These parties may continue to operate their own businesses in a manner that could increasingly divert customers and revenues from us. Furthermore, one of our Founding Airlines has an ownership interest in priceline.com, and our Founding Airlines may make other investments in travel businesses, subject to restrictions in our stockholders agreement. Our stockholders agreement limits the ability, for the period ending two years after our IPO, of any holder of our Class B common stock or its affiliates to act in concert with two or more other holders of Class B common stock or their respective affiliates to acquire beneficial ownership of more than 10%, in the aggregate, of a third party that offers the direct sale to consumers of air travel products predominantly through an Internet site. However, nothing in our agreements with our Founding Airlines would prevent them individually or acting in concert with only one other Founding Airline from organizing or investing in a separate company, similar to Orbitz, for the purpose of competing with us or from pursuing corporate opportunities that might be attractive to Orbitz. After the expiration of the two-year period described above, this investment restriction will lapse. Our charter associate agreements with our Founding Airlines are terminable upon 30 days notice to us, subject to the restriction set forth in the stockholders agreement that such agreements or similar commercial agreements not be terminated for a period of two years from the date of our IPO.

None of our other charter associates or other travel suppliers is prevented from selling directly to consumers, organizing or investing in a separate company similar to us or pursuing corporate opportunities that might be attractive to us.

The terms of our agreement with Worldspan may limit the growth of our Supplier Link business and may have an adverse effect on our business.

We have agreed with Worldspan, a GDS, that we will direct to Worldspan's system all airline and car rental bookings made through our website, with the exception of bookings transacted using our Supplier Link technology. Under our agreement, we are obligated to meet quarterly minimum volume guarantees totaling 16,000,000 segments on an annual basis for air and car transactions for any year in which we utilize Supplier Link technology for either travel product, with a similar, but separate, volume guarantee applicable to car transactions alone that would apply if we were using Supplier Link technology for car transactions. If we do not meet specific quarterly thresholds, we must pay Worldspan a segment fee of $1.78 for each segment that we fall short. Our current business plans contemplate the expansion of our Supplier Link program to include additional airlines. However, unless we are able to sufficiently increase our number of bookings, or modify the terms of the agreement with Worldspan, it will be necessary for us to control the number of Supplier Link segments we can complete in a particular year, and instead direct some of these transactions to Worldspan, if we wish to avoid making these segment fee payments to Worldspan. We have modified our Supplier Link agreements in a manner that would limit expansion of Supplier Link in the near term.

Recent significant changes in the marketplace for air travel distribution, such as airlines' decreasing reliance on GDSs, and GDS deregulation, may have impacts on our business that are difficult to predict. One or more carriers may determine that distribution through Worldspan or other GDSs is too costly relative to alternatives, and demand fundamental changes in the allocation of distribution cost and compensation among GDSs, travel agents and airlines. If, as a result of these or other changes, Worldspan's ability to distribute a broad range of air inventory were impaired, then our business could be adversely affected.

Airline "journey controls" may reduce our advantage in the number of low-priced connecting itineraries we can present to our customers.

Some carriers currently employ, or may adopt, "journey control logic" designed to enhance the management of airfares and seat availability for connecting itineraries, based on a traveler's origin and final destination. ITA, our search engine provider, is capable of accommodating journey control restrictions, but requires coordination with the airline to do so. If the carrier does not coordinate with ITA prior to, and during the use of, journey control logic, some connecting itineraries found by ITA's search engine will be rejected by the airline's system during the Orbitz booking process and the customer will receive an error message, which may negatively affect their perception of our service. Management believes that airlines that have expressed an interest in implementing journey control logic are currently cooperating with ITA, consistent with contractual requirements between us and those carriers. We believe that our bookings on some carriers have been affected by these journey control programs. In the quarterly period ending June 30, 2004, several major carriers implemented extensive tests of their journey control software and these tests uncovered problems with the interface between these carriers' revised inventory methodologies and the ITA fare search software. This caused us to reduce the number of flight options available to Orbitz customers during the period below what was made available by these carriers, and we believe, adversely affected our sales volume. If airlines activate or reactivate journey control restrictions without coordinating these programs with Orbitz, then our ability to present a large number of low-priced fare and flight combinations on connecting itineraries that can be successfully booked by consumers may be compromised. Our efforts to mitigate the implementation risks posed by journey control restrictions may continue to involve a reduction in the number of connecting itineraries that are displayed to our customers, and could reduce any advantage we maintain in the number of low-priced connecting itineraries we can present to our customers. This could have a material adverse effect on our business and financial results.

We operate in a highly competitive market, and we may not be able to compete effectively.

The market for travel products is intensely competitive. We compete with a variety of companies with respect to each product or service we offer, including:

Many of our competitors have longer operating histories, larger customer bases, more established brands and significantly greater financial, marketing and other resources than we do. Some of our competitors benefit from vertical integration with GDSs. In particular, we believe our two primary competitors in the online travel products market to be Expedia and Travelocity, which have each operated their respective businesses for significantly longer than Orbitz and may benefit from greater market share, brand recognition, product diversification, scale and operating experience than we do. In addition, Expedia and Travelocity, unlike us, have each established exclusive relationships as preferred travel partners for widely used Internet destinations such as America Online, MSN and Yahoo!. These arrangements, and similar relationships Expedia and Travelocity may be able to secure in the future, could provide them with a significant advantage in obtaining new customers. Furthermore, the flexibility of being able to provide biased displays for fares may provide Expedia, Travelocity and other competitors an opportunity to receive additional incentive payments from their suppliers. We expect Expedia and Travelocity will devote significant financial and operating resources to maintain their respective positions in the online travel products market.

We expect existing competitors and business partners and new entrants to the travel business to constantly revise and improve their business models in response to challenges from competing Internet-based businesses, including ours. For example, firms that provide services to us and our competitors may introduce pricing or other business changes that adversely affect our attractiveness to suppliers in favor of our competitors. Similarly, some of our airline suppliers have recently entered into arrangements with GDS providers containing "most favored nations" obligations in which they have committed, in exchange for reduced GDS booking fees, to provide to the GDS and its subscribers, including some of our online travel agency competitors, all fares the supplier offers to the general public through any distribution channel. The effect of these arrangements may be to preclude us from successfully bargaining for superior airline inventory or other promotional advantages, and to reduce the relative attractiveness of Orbitz as a low cost distribution channel for these airlines. If Expedia, Travelocity or other travel industry participants introduce changes or developments we cannot meet in a timely or cost-effective manner, our business may be adversely affected. We cannot assure you that we will be able to effectively compete with Expedia, Travelocity or with other travel industry providers.

In addition, consumers frequently use our website for itinerary pricing and other travel information, and then may choose to purchase travel products from a source other than our website, including travel suppliers' own websites. Many travel suppliers, including our Founding Airlines and other airlines, lodging, car rental companies and cruise operators, also offer and distribute travel products, including products from other travel suppliers, directly to the consumer through their own websites. We expect competition from these travel suppliers to intensify. In many cases, these competitors offer advantages, such as bonus miles or lower transaction fees, that we do not or cannot provide to consumers.

In addition, the airline industry has experienced a shift in market share from full-service carriers, such as our Founding Airlines, to low-cost carriers that focus primarily on discount fares to leisure destinations and we expect this trend to continue. Some low-cost carriers, such as Southwest and JetBlue, do not distribute their tickets through Orbitz or other third-party intermediaries.

Our business plans call for the significant growth of our hotel business, and we may be unsuccessful in managing or expanding that business.

We are dependent on our hotel business as a significant source of growth for our business. We have less experience than our competitors in the area of hotels, and we remain subject to numerous risks in the operation and growth of that business. Our hotel strategy is particularly dependent on our ability to obtain an adequate inventory of hotel rooms to offer under our OrbitzSaver model, which requires pre-payment by the consumer at the time of booking. To procure this prepaid inventory, we currently rely on a third-party relationship with Travelweb and on internal sales efforts under our Orbitz Merchant Hotel program.

Our strategy calls for us to increase the number of hotel rooms we can offer under our Orbitz Merchant Hotel program based on merchant arrangements we make directly with individual hotel properties and independent chains. Under the Orbitz Merchant Hotel program, we receive inventory directly from a hotel at a negotiated rate, and we determine the retail price at which we choose to offer it to the consumer. We believe that acting as merchant under this model will allow us to achieve higher revenues per transaction. However, there are significant risks associated with our Orbitz Merchant Hotel program. Many hoteliers utilize merchant arrangements with us and our competitors as a channel to dispose of excess hotel room inventory at wholesale rates. Improving economic conditions are creating increased demand for hotel rooms, and some hotel managers may reduce the amount of inventory they choose to sell through merchant arrangements or increase the negotiated rates at which they are willing to provide that inventory to us. We expect that this will continue to be the trend in many markets, and will be heightened by strong competition from our competitors seeking inventory for their own merchant rate programs. We believe that our ability to obtain desired results from our OMH program will be highly dependent on our ability to successfully manage and promote our hotel inventory to consumers. We did not begin this program until March 2003, and our experience with operational issues is limited. For example, we believe that software and display management issues surrounding the presentation of our hotel inventory impaired the growth of our merchant hotel revenues in the first half of 2004, and there can be no assurance that our efforts to resolve these or similar issues in the future will be successful. Any of these events could exert downward pressure on the margins we can achieve from our merchant hotel business, or otherwise prevent us from achieving our financial objectives for the Orbitz Merchant Hotel program. This could have a material adverse effect on our hotel business.

In May 2004, we entered into a replacement agreement with Travelweb, under which we receive prepaid inventory from Travelweb founders and other participating chains and properties for display on our website. Travelweb was formed by Pegasus Solutions and by several leading hotel chains, including Hilton, Hyatt, Intercontinental, Marriott and Starwood. Although the founders sold the majority of their interests to priceline.com in May 2004, Travelweb continues to act as a reseller of hotel inventory provided by these and other participating chains. Travelweb sets the consumer prices for this inventory and pays us a commission for each hotel room. Under the terms of our revised agreement, which has been extended through the end of 2005, we are free to enter into direct relationships with any property, regardless of its participation in Travelweb, except that we agreed with four of the five founding Travelweb chains not to enter into direct relationships with properties affiliated with one of those chains without such chain's consent. We are required to display all room inventory provided to us by hotels affiliated with Travelweb's founding chains, and we must engage in good faith efforts to sell such inventory, with specified compensatory payments due to Travelweb to the extent our bookings from Travelweb inventory fall short of the quarterly room night targets. If we are unable to meet these quarterly thresholds, there is a risk that our financial results could be adversely affected by the compensatory payments.

A reduction in transaction fees or the elimination of commissions paid by travel suppliers could reduce our revenues. The minimum transaction fees many of our airline suppliers have agreed to pay to us decrease in amount each year over the term of our charter associate agreements.

For the year ended December 31, 2003 and the six months ended June 30, 2004, 19% and 17%, respectively, of our revenues came from the transaction fees paid directly by travel suppliers for airline bookings made by our customers through our online travel service. Where we have charter associate agreements with airline suppliers, these agreements obligate the airline to pay us transaction fees on published fares that are not less than certain agreed-upon floor rates for tickets sold on our website. These minimum transaction fees decrease in amount each year and declined by approximately 27% on June 1, 2004. They are scheduled to decline an additional 28% and 30% on June 1, 2005 and June 1, 2006, respectively, and to become constant thereafter. It is unlikely that any of our charter associate airlines will choose to pay us transaction fees above the minimum levels specified in our contracts. Furthermore, our charter associate agreements have defined durations, and we cannot assure you that our transaction fees will not be reduced or eliminated in the future or will be competitive with market terms during the duration of the agreements.

For the year ended December 31, 2003 and the six months ended June 30, 2004, approximately 21% and 27%, respectively, of our revenues were derived from consumer service fees. We charge our customers a $6 consumer service fee each time they purchase an airline ticket on our website. This fee is $10 for all international markets other than Canada, Mexico and the Caribbean. Although traditional travel agencies and many other online travel companies (including our principal competitors) charge consumer service fees, some other travel websites, including the websites of our travel suppliers, do not charge a service fee and many of our suppliers' sites offer benefits, such as frequent flier miles, that we cannot provide. If we were required by competitive forces to reduce or eliminate our service fee, our revenues could decline as a result.

If we fail to attract and retain customers in a cost-effective manner, our ability to grow and become profitable may be impaired.

Our business strategy depends on increasing our overall number of customer transactions in a cost-effective manner. In order to increase our number of transactions, we must attract new visitors to our website, convert these visitors into paying customers and capture repeat business from existing customers. Similarly, our corporate travel offering is dependent on enlisting new corporate customers and attracting their travel booking activity online to Orbitz. For the year ended December 31, 2003 and the six months ended June 30, 2004, we incurred sales and marketing expenses of $110.6 million and $63.7 million, respectively. Although we have spent significant financial resources on sales and marketing and plan to continue to do so, there are no assurances that these efforts will be cost effective at attracting new customers or increasing transaction volume. In particular, we believe that rates for desirable advertising and marketing placements are likely to increase in the foreseeable future, especially for web-based marketing such as internet search terms, which are increasingly important to us as a source of new users. We may be disadvantaged relative to our larger competitors in our ability to expand or maintain our advertising and marketing commitments. Additionally, we have limited experience in marketing to corporate users. If we do not achieve our marketing objectives, our ability to attract users, to grow and to become consistently profitable may be impaired.

Interruptions in service from third parties or transitions to new service providers could impair the quality of our service.

We rely on third-party computer systems and other service providers, including the computerized central reservation systems of the airline, lodging and car rental industries, to make airline ticket, lodging and car rental reservations and credit card verifications and confirmations. Currently,

approximately 60% of our airline ticket transactions are processed through Worldspan's systems, and approximately 75% of our hotel room transactions are processed through Pegasus. Other third parties provide, for instance, our data center, telecommunications access lines and significant computer systems and software licensing, support and maintenance services. In the past, third parties, including Worldspan and Pegasus, have suffered system outages that have adversely affected our ability to offer our travel services or to process booking transactions. Any future interruption in these, or other, third-party services or a deterioration in their performance could impair the quality of our service. We cannot be certain of the financial viability of all of the third parties on which we rely. We work with many vendors in the telecommunications industry, including MCI, Ameritech, AT&T, Sprint and Cable & Wireless. That industry is continuing to experience a severe economic downturn. If our arrangements with any of these third parties are terminated or if they were to cease operations, we might not be able to find an alternate provider on a timely basis or on reasonable terms, which could hurt our business.

We rely on relationships with licensors for key components of our software. We also hire contractors to assist in the development and maintenance of our systems. Continued access to these licensors and contractors on favorable contract terms or access to alternative software licenses and information technology contractors is important to our operations. Adverse changes in any of these relationships could have a material adverse effect on our business, financial condition or results of operations.

For all our service providers, we attempt to negotiate favorable pricing, service, confidentiality and intellectual property ownership or licensing terms in our contracts with them. These contracts usually have multi-year terms. However, there is no guarantee that these contracts will not terminate and that we will be able to negotiate successor agreements or agreements with alternate service providers on competitive terms. Further, the existing agreements may bind us for a period of time to terms and technology that become obsolete as our industry and our competitors advance their own operations and contracts.

Our success depends on maintaining the integrity of our systems and infrastructure.

In order to be successful, we must provide reliable, real-time access to our systems for our customers and suppliers. As our operations grow in both size and scope, we will need to improve and upgrade our systems and infrastructure to offer an increasing number of customers and travel suppliers enhanced products, services, features and functionality. The expansion of our systems and infrastructure will require us to commit substantial financial, operational and technical resources before the volume of business increases, with no assurance that the volume of business will increase. Consumers and suppliers will not tolerate a service hampered by slow delivery times, unreliable service levels or insufficient capacity, any of which could have a material adverse effect on our business, financial condition or results of operations.

Our computer systems may suffer failures, capacity constraints and business interruptions that could increase our operating costs and cause us to lose customers.

Our operations face the risk of systems failures. Our systems and operations are vulnerable to damage or interruption from fire, flood, power loss, telecommunications failure, computer hacking break-ins and other malicious activity, earthquake, terrorism and similar events. The occurrence of a natural disaster or unanticipated problems at our facilities in Chicago or locations of key vendors such as Hitachi Data Systems, ITA, MCI, AT&T, Oracle, Sun, Compaq, Worldspan or Pegasus could cause interruptions or delays in our business, loss of data or render us unable to process reservations. We are particularly dependent on Oracle, Sun and Hitachi Data Systems as providers of computer infrastructure critical to our business. Hardware failure or software error that affects their systems could result in corruption or loss of data and could cause an interruption in the availability of our services. We are also dependent on external data centers operated by MCI and Savvis, which we do not

control. The failure of our computer and communications systems to provide the data communications capacity required by us, as a result of human error, natural disaster or other occurrence of any or all of these events could adversely affect our reputation, brand and business. In the past, third-party failures and human error have resulted in system interruptions, including a significant outage in July 2003, and we cannot assure you that similar system interruptions will not occur in the future.

In these circumstances, our redundant systems or disaster recovery plans may not be adequate. Similarly, although many of our contracts with our service providers require them to have disaster recovery plans, we cannot be certain that these will be adequate or implemented properly. In addition, our business interruption insurance may not adequately compensate us for losses that may occur. If we were to experience significant systems failures, it could erode consumer confidence in our services and have a material adverse effect on our business, financial condition and results of operations.

Rapid technological changes may render our technology obsolete or decrease the attractiveness of our products to consumers.

To remain competitive in the online travel industry, we must continue to enhance and improve the functionality and features of our website. The Internet and the online commerce industry are rapidly changing. In particular, the online travel industry is characterized by increasingly complex systems and infrastructures and new business models. If competitors introduce new products embodying new technologies, or if new industry standards and practices emerge, our existing website, technology and systems may become obsolete. Our future success will depend on our ability to do the following:

Developing our website and other technology entails significant technical and business risks. We may use new technologies ineffectively or we may fail to adapt our website, transaction processing systems and network infrastructure to consumer requirements or emerging industry standards. For example, our website functionality that allows searches and displays of ticket pricing and travel itineraries is a critical part of our service, and it may become out-of-date or insufficient from our customers' perspective and in relation to the search and display functionality of our competitors' websites. Additionally, as the architecture of our systems becomes more complex, our ability to efficiently innovate or react to emerging standards may be impaired. If we face material delays in introducing new services, products and enhancements, our customers and suppliers may forego the use of our products and use those of our competitors.

We may not protect our technology effectively, which would allow competitors to duplicate our products. This could make it more difficult for us to compete with them.

Our success and ability to compete in the online travel industry depend, in part, upon our technology. We rely primarily on patent, copyright, trade secret and trademark laws and provisions in our contracts to protect our technology. We attempt to negotiate beneficial intellectual property ownership provisions in our contracts. However, laws and our actual contractual terms may not be sufficient to protect our technology from use or theft by third parties. For instance, a third party might try to reverse engineer or otherwise obtain and use our technology without our permission and without our knowledge, allowing competitors to duplicate our products. We may have legal or contractual rights that we could assert against such illegal use, but lawsuits claiming infringement or misappropriation are complex and expensive, and the outcome would not be certain. In addition, the laws of some countries

in which we may wish to sell our products may not protect software and intellectual property rights to the same extent as the laws of the United States.

Defending against intellectual property claims could be expensive and disruptive to our business.

We cannot assure you that others will not obtain and assert patents or other intellectual property rights against us affecting essential elements of our business. From time to time, in the ordinary course of our business, we have been subject to legal proceedings and claims relating to the intellectual property rights of others, and we expect that third parties will continue to assert intellectual property claims against us, particularly as we expand the complexity and scope of our business. We endeavor to defend our intellectual property rights diligently, but intellectual property litigation is expensive and time consuming, and successful infringement claims against us could result in significant monetary liability or prevent us from operating our business, or portions of our business. In addition, resolution of claims may require us to obtain licenses to use intellectual property rights belonging to third parties, which may be expensive to procure, or possibly to cease using those rights altogether. Any of these events could have a material adverse effect on our business, results of operations or financial condition. Please see "Part II, Item 1. Legal Proceedings."

If we do not continue to attract and retain qualified personnel, we may not be able to expand our business.

Our business and financial results depend on the continued service of our key personnel. The loss of the services of our executive officers or other key personnel could harm our business and financial results. Our success also depends on our ability to hire, train, retain and manage highly skilled employees. We cannot assure you that we will be able to attract and retain a significant number of qualified employees or that we will successfully train and manage the employees we hire.

We may acquire other businesses, products or technologies; if we do, we may be unable to integrate them with our business, or we may impair our financial performance.

If appropriate opportunities present themselves, we may acquire businesses, products or technologies that we believe are strategic. We may not be able to identify, negotiate or finance any future acquisition successfully. Even if we do succeed in acquiring a business, product or technology, we have no experience in integrating an acquisition into our business; the process of integration may produce unforeseen operating difficulties and expenditures and may absorb significant attention of our management that would otherwise be available for the ongoing development of our business. Such acquisitions may involve numerous other risks, including: failure to realize expected synergies or cost savings; unidentified issues not discovered in our due diligence process, including product and service quality issues and legal contingencies; potential loss of our key employees or key employees of the acquired company; difficulty in maintaining controls, procedures and policies during the transition and integration process and difficulty in maintaining our relationships with existing travel suppliers or customers. If we make acquisitions, we may issue shares of stock that dilute the interests of our other shareholders and dilute our earnings per share, expend cash, incur debt, assume contingent liabilities or create additional expenses related to amortizing other intangible assets with estimable useful lives, any of which might harm our business, financial condition or results of operations.

Declines or disruptions in the travel industry, such as those caused by general economic downturns, terrorism, health concerns or strikes or bankruptcies within the travel industry could reduce our revenues.

Our business is affected by the health of the travel industry. Travel expenditures are sensitive to business and personal discretionary spending levels and tend to decline during general economic downturns. Since 2001, the travel industry has experienced significant downturns, and there is a risk that a future downturn, or periods of weak demand for travel, could adversely affect the growth of our business. Additionally, travel is sensitive to safety concerns, and thus may decline after incidents of

terrorism, during periods of geopolitical conflict in which travelers become concerned about safety issues, or when travel might involve health-related risks. For example, the terrorist attacks of September 11, 2001, which included attacks on the World Trade Center and the Pentagon using hijacked commercial aircraft, resulted in a decline in travel bookings, including those through our website. Following the September 11, 2001 attacks, our weekly transactions decreased approximately 50% and returned to pre-attack levels in late October 2001. Similarly, our weekly transactions decreased approximately 20% when the war with Iraq began in mid-March 2003 and returned to pre-war levels in mid-April 2003. The long-term effects of events such as these could include, among other things, a protracted decrease in demand for air travel due to fears regarding terrorism, war or disease. These effects, depending on their scope and duration, which we cannot predict at this time, could significantly impact our long-term results of operations or financial condition. Other adverse trends or events that tend to reduce travel and may reduce our revenues include:

Evolving government regulation could impose taxes or other burdens on our business, which could increase our costs or decrease demand for our products.

We must comply with laws and regulations applicable to online commerce and the sale of air transportation. Increased regulation of the Internet or air transportation or different applications of existing laws might slow the growth in the use of the Internet and commercial online services, or could encumber the sale of air transportation, which could decrease demand for our products, increase the cost of doing business or otherwise reduce our sales and revenues. The statutes and case law governing online commerce are still evolving, and new laws, regulations or judicial decisions may impose on us additional risks and costs of operations.

Federal legislation imposing limitations on the ability of states to tax Internet-based sales was enacted in 1998. The Internet Tax Freedom Act, which was extended by the Internet Non-Discrimination Act, exempted specific types of sales transactions conducted over the Internet from multiple or discriminatory state and local taxation through November 1, 2003. If this legislation is not renewed, state and local governments could impose additional taxes on Internet-based sales, and these taxes could decrease the demand for our products or increase our costs of operations.

We are currently reviewing the tax laws in various states and jurisdictions relating to state and local hotel occupancy taxes. Several jurisdictions have indicated that they may take the position that hotel occupancy tax is applicable to the gross profit on merchant hotel transactions. Historically, we have not paid such taxes. Some state and local jurisdictions could rule that we are subject to hotel occupancy taxes on the gross profit and could seek to collect such taxes, either retroactively or prospectively or both. If hotel occupancy tax is applied to the gross profit on merchant hotel transactions, it could increase our costs or decrease demand for our products.

In addition, new regulations, domestic or international, regarding the privacy of our users' personally identifiable information may impose on us additional costs and operational constraints. Because our market is seasonal, our quarterly results will fluctuate. Our business experiences seasonal fluctuations, reflecting seasonal trends for the products offered by our website, as well as Internet

services generally. For example, traditional leisure travel bookings are higher in the first two calendar quarters of the year in anticipation of spring and summer vacations and holiday periods, but online travel reservations may decline with reduced Internet usage during the summer months. In the last two quarters of the calendar year, demand for travel products generally declines and the number of bookings flattens or decreases. These factors could cause our revenues to fluctuate from quarter to quarter. Our results may also be affected by seasonal fluctuations in the inventory made available to us by travel suppliers.

The success of our business depends on continued growth of online travel commerce.

Our sales and revenues will not grow as we plan if consumers and businesses do not purchase significantly more travel products online than they currently do and if the use of the Internet as a medium of commerce for travel products does not continue to grow or grows more slowly than expected. Consumers and businesses have traditionally relied on travel agents and travel suppliers and are accustomed to a high degree of human interaction in purchasing travel products. The success of our business is dependent on the number of consumers and businesses who use the Internet to purchase travel products increasing significantly.

Our business is exposed to risks associated with online commerce security and credit card fraud.

Consumer concerns over the security of transactions conducted on the Internet or the privacy of users may inhibit the growth of the Internet and online commerce. To transmit confidential information such as customer credit card numbers securely, we rely on encryption and authentication technology. Unanticipated events or developments could result in a compromise or breach of the systems we use to protect customer transaction data. Furthermore, our servers and those of our service providers may be vulnerable to viruses or other harmful code or activity transmitted over the Internet. While we proactively check for intrusions into our infrastructure, a virus or other harmful activity could cause a service disruption.

In addition, we bear financial risk from products or services purchased with fraudulent credit card data. Although we have implemented anti-fraud measures, a failure to control fraudulent credit card transactions adequately could adversely affect our business. Because of our limited operating history, we cannot assure you that our anti-fraud measures are sufficient to prevent material financial loss.

The market price of our Class A common stock may be highly volatile or may decline regardless of our operating performance.

The market prices of the securities of Internet-related and online commerce companies have been extremely volatile and have declined overall significantly since early 2000. Broad market and industry factors may adversely affect the market price of our Class A common stock, regardless of our actual operating performance. Factors that could cause fluctuation in the stock price may include, among other things:

Future sales of our Class A common stock may cause our stock price to decline.

If our shareholders sell substantial amounts of our Class A common stock in the public market, the market price of our Class A common stock could decline. These sales might also make it more difficult for us to sell additional equity securities at a time and price that we deem appropriate. As of June 30, 2004, we had an aggregate of 40,806,292 shares of common stock outstanding, including 13,632,831 shares of Class A common stock and 27,173,461 shares of Class B common stock, which is convertible at any time into Class A common stock. Of these outstanding shares, 12,833,581 shares of our Class A common stock are freely tradable in the public market. The remaining 799,250 shares of our Class A common stock and all of our Class B common stock shares are restricted securities as defined in Rule 144 under the Securities Act.

These 27,972,711 shares of restricted stock may be sold into the public market in the future without registration under the Securities Act to the extent permitted under Rule 144. The Class B shares, which can be converted to Class A shares at any time, are also subject to registration rights under which their holders may require us to file a future registration statement under the Securities Act to permit them to sell their shares freely into the public market.

In addition, 6,667,563 shares reserved for issuance pursuant to outstanding options and 1,171,631 shares available for grant under our existing stock plans as of June 30, 2004, if granted, will become eligible for sale in the public market once permitted by provisions of various vesting agreements and Rule 144, as applicable. In addition, 434,782 shares of redeemable Series A non-voting convertible preferred stock will be convertible into the same number of shares of Class A common stock at any time from and after December 19, 2008.

Under our tax agreement with the Founding Airlines, we could have exposure if a tax authority were to determine that tax benefits were unavailable to us in connection with the IPO Exchange and the Founding Airlines were unable to satisfy related repayment obligations.

We have treated the IPO Exchange as a taxable exchange of membership units in Orbitz, LLC for capital stock of Orbitz, Inc., resulting in our Founding Airlines or their affiliates recognizing taxable gain. In connection with the IPO Exchange, we have increased our tax basis in our tangible and intangible assets by an amount equal to the taxable gain recognized by our Founding Airlines or their affiliates. As a result, we expect the IPO Exchange to reduce the amounts we must pay to various tax authorities by increasing our future tax deductions for depreciation and amortization. We have agreed in our tax agreement with our Founding Airlines or their affiliates to pay them 87% of the amount by which our tax payments to various tax authorities actually are reduced. We have recorded the first such payment obligation in connection with the quarterly period ended June 30, 2004, and we expect that we will be obligated to make such payments on a regular basis in future periods. Such payments to our Founding Airlines or their affiliates could exceed $250 million over 15 years or longer. If, as a result of an income tax audit or examination, a tax authority determines that any significant amount of these tax benefits should not have been available to Orbitz, we might be required to pay additional taxes, interest and/or penalties to one or more tax authorities, as well as any costs associated with such tax audit or examination, after having already paid the tax benefits to our Founding Airlines or their affiliates. If at that time any of our Founding Airlines were insolvent or bankrupt or otherwise unable to repay such tax benefits to us as provided in our tax agreement, this could have a material adverse effect on our financial condition.

We do not expect to pay any dividends to the holders of our common stock for the foreseeable future.

We do not anticipate that we will pay any dividends to holders of our common stock in the foreseeable future. Accordingly, investors must rely on sales of their Class A common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investment. Investors seeking cash dividends should not purchase our Class A common stock.

Recently enacted and proposed changes in securities laws and regulations are likely to increase our costs.

The Sarbanes-Oxley Act of 2002 and the Securities and Exchange Commission rules implementing that Act have required changes in some of our corporate governance practices and may require further changes. These new rules and regulations will increase our legal and financial compliance costs, and make some activities more difficult, time-consuming or costly. We also expect these new rules and regulations to make it more difficult and more expensive for us to maintain director and officer liability insurance. These new rules and regulations could also make it more difficult for us to attract and retain qualified independent members of our board of directors and qualified members of our management team.

We have made statements in this report, including statements under "Management's Discussion and Analysis of Financial Condition and Results of Operations," which constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements are subject to a number of risks, uncertainties and assumptions about the Company, including those described under "Risk Factors" in the Company's Annual Report on Form 10-K for the year ended December 31, 2003 filed with the Securities and Exchange Commission. In light of these risks and uncertainties, the forward-looking events and circumstances discussed in this report may not occur and actual results could differ materially from those anticipated or implied in the forward-looking statements.

You can identify these forward-looking statements by forward-looking words such as "believe," "may," "could," "will," "estimate," "continue," "anticipate," "intend," "seek," "plan," "expect," "should," "would" and similar expressions in this report.

We consider investments purchased with an original or remaining maturity of less than three months at the date of purchase to be cash equivalents. We maintain an investment portfolio of various holdings, types and maturities, consisting primarily of corporate debt. These securities are classified as available-for-sale and consequently are recorded on the condensed consolidated balance sheets at fair market value with unrealized gains or losses reported as a separate component of accumulated other comprehensive income.

At any time, a sharp rise in interest rates could have a material adverse impact on the fair value of our investment portfolio. Conversely, declines in interest rates could have a material impact on interest earnings for our investment portfolio. We do not currently hedge these interest rate exposures.

The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company's Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to the Company's management, including its Chief

Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

As required by SEC Rule 13a-15(b), the Company carried out an evaluation, under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and the Company's Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures as of the end of the quarter covered by this report. Based on the foregoing, the Company's Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures were effective at the reasonable assurance level.

There has been no change in the Company's internal controls over financial reporting during the Company's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting.

On October 16, 2002, Amadeus Global Travel Distribution, S.A. and Amadeus s.a.s., collectively "Amadeus," filed a complaint against us in the United States District Court for the District of Delaware. In the lawsuit, Amadeus alleged that our use of the ITA software in combination with GDS services from Worldspan (a competitor of Amadeus) constituted a breach of the terms of our agreement with ITA. Amadeus also contended that we tortiously interfered with the contract between Amadeus s.a.s. and ITA, claiming that ITA was not contractually free to license its low fare searching software to us. The court granted summary judgment in favor of Orbitz and ITA and against Amadeus on February 19, 2004. Amadeus, in lieu of pursuing its appeal, reached an agreement with co-defendant ITA and dismissed the action in its entirety on May 14, 2004, including all claims against us.

On January 10, 2004, NCR Corporation ("NCR") filed a complaint in the United States District Court for the Western District of Pennsylvania, alleging that Orbitz's commercial Internet operations infringe 13 separate patents, including business method patents, allegedly owned by NCR. In June 2004, Orbitz and NCR settled this dispute, and NCR has dismissed the matter in its entirety.

On June 2, 2004, ArrivalStar, Inc. filed a complaint in the United States District Court for the Eastern District of Texas naming Orbitz and two other unrelated defendants. The suit alleges infringement of a number of separate patents, including business method patents, related to our customer care program and the automated communication of flight times to our customers. We believe that this lawsuit is without merit, and we intend to vigorously defend this action.

In addition to the matters described above, we are party to various pending legal actions that we believe to be incidental to the operation of our business. We believe that the outcome of these pending, incidental legal proceedings will not have a material adverse effect on our financial position or results of operations.

We cannot predict the outcome or ultimate impact of any legal or regulatory proceedings pending against us or affecting our business. Consequently, we cannot assure you that the legal or regulatory proceedings referred to in this report or any that may arise in the future will be resolved without a material adverse effect on our business, financial condition or results of operations.

ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY SECURITIES

We held our Annual Meeting of Shareholders on June 2, 2004. At the meeting, our shareholders voted on the following proposals and cast their votes as follows:

Holders of our Class A common stock and Class B common stock voted as a single class to elect a Class A Director to our Board of Directors:

Nominee		For		Withheld
Denise K. Fletcher		284,202,931		60,309

Holders of our Class B common stock, voting separately by series, elected five Class B Directors to our Board of Directors:

Nominee	Series of Class B Stock Entitled to Vote	For
Daniel P. Garton	Series B-AA	6,733,847
Jeffery A. Smisek	Series B-CO	3,549,669
Vincent F. Caminiti	Series B-DL	5,206,897
J. Timothy Griffin	Series B-NW	5,045,549
Douglas A. Hacker	Series B-UA	6,733,847

Holders of our Class B common stock voted as a single class to elect the Management Director to our Board of Directors:

Nominee		For		Withheld
Jeffrey G. Katz		27,269,809		0

Holders of our Class A common stock and Class B common stock voted as a single class to ratify the appointment of KPMG LLP as our independent auditors for 2004:

For		Against		Abstain
284,037,389		224,801		1,050

In addition to the Class A director, the Class B directors and the Management Director elected to our Board of Directors at the Annual Meeting, the terms of office of two Class A directors, Marc L. Andreessen and Scott D. Miller, continued after the meeting.

There have been no material changes to the procedures set forth in our proxy statement by which stockholders may recommend nominees to the Company's board.

We furnished one report on Form 8-K during the quarter ended June 30, 2004. Information regarding each item reported on is as follows:

Date Furnished	Item No.		Description
May 5, 2004	Item 12		On May 5, 2004, we announced our financial results for the quarter ended March 31, 2004.

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

		June 30, 2004		December 31, 2003
		(Unaudited)
Assets
Current assets:
	Cash and cash equivalents	$	133,286	$	173,939
	Short-term investments, including restricted investments of $11,271 and $7,537 as of June 30, 2004 and December 31, 2003, respectively		34,935		7,537
	Accounts receivable, net of allowance of $139 and $168 as of June 30, 2004 and December 31, 2003, respectively		18,418		11,031
	Due from related parties		4,828		3,305
	Prepaid expenses		7,315		4,973
	Other current assets		1,850		1,394

	Total current assets		200,632		202,179

Property and equipment, net			15,396		17,146

Other long-term assets:
	Long-term investments, including restricted investments of $981 and $1,265 as of June 30, 2004 and December 31, 2003, respectively		44,923		1,265
	Other assets, net		1,326		355

	Total other long-term assets		46,249		1,620

	Total assets	$	262,277	$	220,945

Liabilities and Shareholders' Equity
Current liabilities:
	Accounts payable	$	5,180	$	5,206
	Accrued compensation		3,750		6,309
	Accrued supplier rebates		754		899
	Due to related parties		4,256		2,810
	Accrued expenses		32,787		24,932
	Deferred revenue		26,065		11,896
	Current portion of capital lease obligation		256		—

	Total current liabilities		73,048		52,052

Long-term liabilities			8,086		6,924

Redeemable Series A non-voting convertible preferred stock, $26.00 face value; 434,782 shares authorized, issued and outstanding as of June 30, 2004 and December 31, 2003, stated at redemption price			11,452		11,323

Shareholders' Equity			169,691		150,646

	Total liabilities and shareholders' equity	$	262,277	$	220,945

		Three Months Ended June 30,						Six Months Ended June 30,
		2004			2003			2004			2003
Revenues, net:
	Air revenues, net	$	44,210		$	39,436		$	87,326		$	74,828
	Other travel revenues		22,046			11,226			39,745			18,585
	Other revenues		9,338			7,623			18,780			14,340

	Total revenues, net		75,594			58,285			145,851			107,753
Cost of revenues			19,753			18,487			39,770			36,252

	Gross profit		55,841			39,798			106,081			71,501

Operating expenses:
	Sales and marketing		31,214			30,074			63,706			52,648
	Technology and development		7,091			7,545			15,036			13,916
	General and administrative		5,258			5,056			11,980			9,893
	Stock-based compensation*		1,704			257			3,459			756

	Total operating expenses		45,267			42,932			94,181			77,213

Operating income (loss)			10,574			(3,134	)		11,900			(5,712	)
Interest income			743			194			1,277			386
Tax sharing expense			(967	)		—			(967	)		—

Income (loss) before provision for income taxes			10,350			(2,940	)		12,210			(5,326	)
Provision for income taxes			—			—			—			—

Net income (loss)			10,350		$	(2,940	)		12,210		$	(5,326	)

Less: dividends and accretion on redeemable Series A non-voting convertible preferred stock			(141	)					(283	)

Net income available to common shareholders		$	10,209					$	11,927

Earnings per common share:
	Basic	$	0.25					$	0.30

	Diluted	$	0.24					$	0.28

Weighted average shares used to calculate earnings per common share:
	Basic		40,302						40,144

	Diluted		42,524						42,483

*Stock-based compensation:
	Cost of revenues	$	136		$	—		$	276		$	—
	Sales and marketing		176			22			366			22
	Technology and development		355			—			740			290
	General and administrative		1,037			235			2,077			444

	Total stock-based compensation	$	1,704		$	257		$	3,459		$	756

				Six Months Ended June 30,
				2004			2003
Cash flows from operating activities:
	Net income (loss)			$	12,210		$	(5,326	)
	Adjustments to reconcile net income (loss) to net cash provided by operating activities:
		Depreciation and amortization			6,585			6,397
		Stock-based compensation			3,459			756
		Changes in operating assets and liabilities:
			Accounts receivable, net of allowance		(7,387	)		(2,566	)
			Prepaid expenses and other current assets		(2,798	)		(2,306	)
			Other long-term assets		(1,023	)		(42	)
			Accounts payable		(26	)		(3,039	)
			Due to/from related parties		(77	)		(2,122	)
			Accrued liabilities		5,151			8,491
			Deferred revenue		14,169			3,697
			Other liabilities, net		685			2,217

	Net cash provided by operating activities				30,948			6,157

Cash flows from investing activities:
	Purchases of property and equipment				(3,988	)		(5,203	)
	Purchases of investments				(72,570	)		—
	Redemptions of investments				935			405

	Net cash used in investing activities				(75,623	)		(4,798	)

Cash flows from financing activities:
	Proceeds from exercise of stock options				5,105			375
	Costs related to the December 2003 initial public offering				(867	)		—
	Dividends paid on preferred stock				(154	)		—
	Payment of capital lease obligation				(62	)		—
	Purchase of restricted shares				—			(41	)

	Net cash provided by financing activities				4,022			334

	Net change in cash and cash equivalents				(40,653	)		1,693
Cash and cash equivalents, beginning of period					173,939			56,028

Cash and cash equivalents, end of period				$	133,286		$	57,721

Noncash investing and financing activities—
	Capital leases			$	733		$	—

		Three Months Ended June 30,						Six Months Ended June 30,
		2004			2003			2004			2003
Net income (loss) as reported		$	10,350		$	(2,940	)	$	12,210		$	(5,326	)
Add stock-based compensation expense included in reported net income (loss)			1,704			257			3,459			756
Less stock-based compensation determined under the provisions of SFAS No. 123			(2,966	)		(815	)		(5,407	)		(1,921	)

Pro forma net income (loss)			9,088		$	(3,498	)		10,262		$	(6,491	)

Less dividends and accretion on redeemable Series A non-voting convertible preferred stock			(141	)					(283	)

Pro forma net income available to common shareholders		$	8,947					$	9,979

Basic earnings per share:
	As reported	$	0.25					$	0.30

	Pro forma	$	0.22					$	0.25

Diluted earnings per share:
	As reported	$	0.24					$	0.28

	Pro forma	$	0.21					$	0.23

		Three Months Ended June 30,						Six Months Ended June 30,
		Actual 2004			Pro forma 2003			Actual 2004			Pro forma 2003
Net income (loss)		$	10,350		$	(2,940	)	$	12,210		$	(5,326	)
Dividends and accretion on preferred stock			(141	)					(283	)
Income allocated to preferred stock under the two-class method			—						—

Net income available to common shareholders		$	10,209					$	11,927

Pro forma dividends and accretion on preferred stock						(141	)					(283	)

Pro forma net loss attributable to common shareholders					$	(3,081	)				$	(5,609	)

Earnings per common share:
	Basic	$	0.25					$	0.30

	Diluted	$	0.24					$	0.28

Weighted average number of shares outstanding:
	Basic		40,302						40,144

	Diluted		42,524						42,483

Pro forma net loss per common share—basic and diluted					$	(0.09	)				$	(0.16	)

Pro forma weighted average number of shares outstanding—basic and diluted						35,665						35,652

Anti-dilutive securities not included in the calculations above
	Options		871			1,841			871			1,696
	Unvested restricted stock		—			16			—			8
	Convertible preferred stock		435			435			435			435

	Total		1,306			2,292			1,306			2,139

		Common Stock
		Class A			Class B										Accumulated Other Comprehensive Income
		Class A			Class B				Additional Paid-in Capital			Unearned Compensation						Accumulated Deficit			Total Equity
		Shares	Amount		Shares		Amount		Additional Paid-in Capital			Unearned Compensation						Accumulated Deficit			Total Equity
Balance—December 31, 2003		12,813,212	$	13	27,269,809		$	27	$	179,001		$	(2,382	)	$	—		$	(26,013	)	$	150,646
Stock-based compensation expense		—		—	—			—		3,120			339			—			—			3,459
Exercise of stock options		723,271		1	—			—		5,104			—			—			—			5,105
Conversion of Class A shares to Class B shares at option of holder		96,348		—	(96,348	)		—		—			—			—			—			—
Dividends on preferred stock		—		—	—			—		(95	)		—			—			—			(95	)
Accretion on preferred stock		—		—	—			—		(188	)		—			—			—			(188	)
Costs related to the December 2003 initial public offering		—		—	—			—		(867	)		—			—			—			(867	)
Comprehensive income:
	Net income	—		—	—			—		—			—			—			12,210			12,210
	Unrealized loss on available for sale securities	—		—	—			—		—			—			(579	)		—			(579	)

Total comprehensive income		—		—	—			—		—			—			—			—			11,631

Balance—June 30, 2004 (unaudited)		13,632,831	$	14	27,173,461		$	27	$	186,075		$	(2,043	)	$	(579	)	$	(13,803	)	$	169,691

		ORBITZ, INC.
Date: August 11, 2004		/s/ JEFFREY G. KATZ Jeffrey G. Katz Chairman of the Board, President and Chief Executive Officer
Date: August 11, 2004		/s/ JOHN J. PARK John J. Park Chief Financial Officer

Exhibit Number		Description
3.1		Amended and Restated Certificate of Incorporation of Orbitz, Inc. (incorporated by reference to Exhibit No. 3.1 to Amendment No. 5 to the Registration Statement on Form S-1 of Orbitz, Inc., Registration No. 333-88646, with a file date of November 26, 2003)
3.2		Amended and Restated Bylaws of Orbitz, Inc. (incorporated by reference to Exhibit No. 3.2 to Amendment No. 5 to the Registration Statement on Form S-1 of Orbitz, Inc., Registration No. 333-88646, with a file date of November 26, 2003)
4.1		Specimen Class A Common Stock Certificate (incorporated by reference to Exhibit No. 4.1 to Amendment No. 5 to the Registration Statement on Form S-1 of Orbitz, Inc., Registration No. 333-88646, with a file date of November 26, 2003)
4.2		Amended and Restated Stockholders Agreement (incorporated by reference to Exhibit No. 4.2 to Amendment No. 5 to the Registration Statement on Form S-1 of Orbitz, Inc., Registration No. 333-88646, with a file date of November 26, 2003)
4.2(a)*		Amendment No. 1 to Amended and Restated Stockholders Agreement dated as of April 14, 2004
4.3		Certificate of Designations, Preferences and Rights of Series A Non-Voting Convertible Preferred Stock (incorporated by reference to Exhibit No. 4.3 to Amendment No. 5 to the Registration Statement on Form S-1 of Orbitz, Inc., Registration No. 333-88646, with a file date of November 26, 2003)
10.14(a)*†		Letter Agreement, dated as of April 30, 2004, between Orbitz and Travelweb, LLC
10.31(b)*		Second Amended and Restated Orbitz, Inc. 2002 Stock Plan
31.1*		Certification by Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2*		Certification by Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1*		Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2*		Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002