The 2016 Deep Dive Into Expedia’s Competitive Position In Travel

by Jared Wein + Skift Team - Oct 2016

Skift Research Take

Expedia has a lot going for it in the short to mid term but shifts in technology and consumer tastes have disrupted the travel space before, and will do so again. Dara and team will need to stay vigilant in addressing numerous vulnerabilities, especially as they go up against the big platforms including Google, Facebook, Amazon and others.

Report Overview

This report assesses Expedia’s competitive positioning in travel amid the explosion of disruption and technological innovation now playing out across the entire sector. The company continues to charge forward with a combination of healthy organic growth from its diverse brands, as well as the positive impacts from its latest acquisitions. Revenue streams and overall profitability look strong in the short to mid term, but nothing is certain in today’s environment.

In an exclusive interview at the 2016 Skift Global Forum in New York City Dara pointed to artificial intelligence and voice-activated search as a concerning threat to the business. The big technology platforms including Google, Facebook and Amazon know this and have vast resources aimed at dislodging Expedia and other aging online travel agency brands from their current high-ground position.

The online travel agency (OTA) landscape is also not a winner-take-all environment, despite heavy consolidation in the space. Both Expedia and Priceline are well-positioned for steady growth into the next decade – but not without headwinds. The rise of alternative booking platforms including Airbnb, local niche OTAs, metasearch brands, consolidation in the hotel space, and the steady march of new giants into the travel sphere such as Facebook and Amazon will likely chip away at Expedia’s dominant position.

The online travel ecosystem is changing with all participants looking to take share of different parts of the search and booking process. This has led to aggressive marketing campaigns by the hotels to push direct bookings, while the OTAs continue to spend billions in digital marketing each year. Here we discuss the current landscape and our predictions surrounding direct booking, M&A, and advertising trends.

HomeAway will likely prove to be a transformational acquisition with a business model change combined with strong bookings growth in alternative lodgings. Here we address the new consumer fee structure, the move to online bookings, likely actions by consumers and suppliers, and the overall impact to Expedia.

Hotel metasearch brand Trivago has been growing revenue rapidly, but spending heavily to market itself. As this spend normalizes, Trivago should become more profitable over time. Additionally, Expedia is exploring an IPO of Trivago and could unlock value by doing so. Here we explore how large the IPO could be and how it may be structured.

The Orbitz integration has hit some near-term headwinds, but we believe the synergies will be compelling over time. Here we quantify the potential gains and track the progress of the integration.

We also dive into corporate travel where Expedia-owned Egencia is disrupting the space and growing well ahead of legacy managers, air bookings where Expedia is benefiting from cross-selling its hotels, and B-to-B where its affiliate network is creating new partnerships that could reshape how the large hotels and OTAs work with each other.

Executive Summary

This report assesses Expedia’s competitive positioning in travel amid the explosion of disruption and technological innovation now playing out across the entire sector. The company continues to charge forward with a combination of healthy organic growth from its diverse brands, as well as the positive impacts from its latest acquisitions. Revenue streams and overall profitability look strong in the short to mid term, but nothing is certain in today’s environment.

In an exclusive interview at the 2016 Skift Global Forum in New York City Dara pointed to artificial intelligence and voice-activated search as a concerning threat to the business. The big technology platforms including Google, Facebook and Amazon know this and have vast resources aimed at dislodging Expedia and other aging online travel agency brands from their current high-ground position.

The online travel agency (OTA) landscape is also not a winner-take-all environment, despite heavy consolidation in the space. Both Expedia and Priceline are well-positioned for steady growth into the next decade – but not without headwinds. The rise of alternative booking platforms including Airbnb, local niche OTAs, metasearch brands, consolidation in the hotel space, and the steady march of new giants into the travel sphere such as Facebook and Amazon will likely chip away at Expedia’s dominant position.

The online travel ecosystem is changing with all participants looking to take share of different parts of the search and booking process. This has led to aggressive marketing campaigns by the hotels to push direct bookings, while the OTAs continue to spend billions in digital marketing each year. Here we discuss the current landscape and our predictions surrounding direct booking, M&A, and advertising trends.

HomeAway will likely prove to be a transformational acquisition with a business model change combined with strong bookings growth in alternative lodgings. Here we address the new consumer fee structure, the move to online bookings, likely actions by consumers and suppliers, and the overall impact to Expedia.

Hotel metasearch brand Trivago has been growing revenue rapidly, but spending heavily to market itself. As this spend normalizes, Trivago should become more profitable over time. Additionally, Expedia is exploring an IPO of Trivago and could unlock value by doing so. Here we explore how large the IPO could be and how it may be structured.

The Orbitz integration has hit some near-term headwinds, but we believe the synergies will be compelling over time. Here we quantify the potential gains and track the progress of the integration.

We also dive into corporate travel where Expedia-owned Egencia is disrupting the space and growing well ahead of legacy managers, air bookings where Expedia is benefiting from cross-selling its hotels, and B-to-B where its affiliate network is creating new partnerships that could reshape how the large hotels and OTAs work with each other.

Introduction

Expedia has a huge global presence with $68B in gross bookings across over 200 sites in 75 countries offering over 269K hotels, 1.2M vacation rentals, 475 airlines, and 150 car rental companies. The company has continued to add new brands to its platform amid consolidation of the OTA industry, most recently acquiring Orbitz and Travelocity.

The OTA segment e.g. Expedia.com, hotels.com and other domains remain the largest contributor to the group accounting for just over 80% of revenue. Short-term rental brand HomeAway accounts for just under 8% but that should increase over time. Metasearch site Trivago is growing rapidly and will likely see its share of revenue rise. Egencia is the corporate travel segment with growth far outpacing its industry.

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Source: Expedia 2016 Q2 10Q

 

Hotel booking is the largest product for Expedia and is housed in the OTA platform, contributing almost 60% of revenue. The remaining 40% of sales are diversified among air travel, HomeAway, Trivago, Egencia, advertising and media, and other items like car rentals, cruises, and business-to-business.

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Source: Expedia 2016 Q2 10Q Skift Estimates

 

Expedia has diverse brands in its multi-product OTA business with the underlying technology and expertise from its namesake driving results across them.

Brand Expedia started in 1996 and has localized sites in 33 countries. These offer flights, hotels, travel packages, and things to do with its local expert brand tied into the platform. This part of the business includes Orbitz, Travelocity, CheapTickets, Wotif, and Hotwire the sum of which accounted for approximately $40 Billion or two-thirds of the company’s 2015 total bookings. Orbitz and Travelocity were direct competitors to Expedia before being acquired; they remain separate multi-product sites with similar functionality to Expedia (now with better technology and more options). CheapTickets came along with the Orbitz portfolio and has a similar interface to Orbitz, with an emphasis on travel deals. Hotwire sells excess inventory from suppliers at deeply discounted rates via an opaque model, withholding the name of the supplier until after booking. It operates in 12 countries throughout North America, Europe, and Asia with over 3,200 destinations. Wotif Group includes the namesake along with lastminute.com.au, lastminute.com.nz, and travel.com.au brands in Australia and New Zealand with similar interfaces to Expedia.

Hotels.com leads Expedia’s pure hotel OTA business.

Expedia has two pure hotel OTAs with the key Hotels.com brand having 89 localized sites in 65 countries driving over 50 million unique monthly users. Hotels.com likely contributed to the vast majority of the pure hotel OTA $14 billion in 2015 gross bookings (one-fourth of total Expedia Inc. gross bookings). Hotels.com has been around since 1991, originally as Hotel Reservations Network, and has a strong rewards program with campaigns like stay ten nights and the eleventh is free. Venere.com offers 200,000 hotels, bed & breakfasts, serviced apartments, and other lodging in Europe with travel experts helping clients in 11 languages.

Expedia has two niche OTAs.

CarRentals.com has 33 rental agencies in over 15,000 locations. Expedia CruiseShipCenters is a hybrid between an OTA and traditional travel agent model. It offers over 200,000 cabins with inventory shown online, while utilizing an offline network of consultants for travelers looking for personalized advice. Expedia offers direct cruise booking on the core OTA platform.

Hotel metasearch site Trivago is growing at a rapid pace.

Expedia’s sole metasearch property is Trivago, which focuses exclusively on hotels. It has sites in 55 countries comparing rates across one million hotels on over 250 supplier partner sites. The unit is in rapid growth mode growing revenue at a 78% CAGR from 2011 to 2015 to just under $500 million.

Expedia participates in the traditional travel agency model via Classic Vacations.

Classic Vacations has existed for over 30 years and acts as a partner for travel agents booking luxury travel in Hawaii, Mexico, Europe, the South Pacific, and the Caribbean.

HomeAway adds tremendous scale to Expedia’s total lodging offering.

The HomeAway acquisition brought Expedia HomeAway’s brands in the U.S. (HomeAway, VRBO, Vacation Rentals) and several international titles (Abritel and Homelidays in France, Toprural in Spain, Stayz in Australia, and OwnersDirect in the U.K.). There are also HomeAway localized sites outside the US (i.e. HomeAway.de in Germany). HomeAway bought BedandBreakfast.com in 2010, which is not peer-to-peer, but solely focuses on the bed & breakfast category. HomeAway has over 1.2 million vacation properties across 190 countries with 40 websites in 20 languages leading to $14-16 billion in annual bookings.

Egencia is disrupting the corporate travel industry.

Egencia is Expedia’s corporate travel platform with a presence in 65 countries. It is disrupting corporate travel and growing much faster than incumbents, relying on a lower touch technology-driven platform while still offering expert consultants when needed. Its core clients are smaller companies without an existing travel management company in place.

Expedia has two brands targeting the business-to-business market.

The Expedia Affiliate Network is a private label platform working with over 7,500 airlines, OTAs, and retailers in 33 countries to drive hotel bookings. Through the EAN, Expedia is essentially providing its technology and customizing it for the clients. Expedia Media Solutions has partnered with around 1,000 brands over the past 8 years providing digital media consulting to the travel, finance, auto, entertainment, retail, and telecommunications industries. B-to-B could become a more meaningful contributor over time with new partnerships being put in place with hotel chains.

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Priceline vs. Expedia

Priceline and Expedia are the dominant players in the OTA space, but have different business models and growth drivers. While Priceline has also made several important acquisitions, it is more of an organic hotel OTA growth story via booking.com. Booking.com has 1,034,157 active properties in 226 countries and territories with sites in 40 languages. It accounts for the vast majority of Priceline’s bookings and revenue and does so at high margins with a ~15% take rate and only hotels on booking.com (airlines have much lower economics than hotels for OTAs). Expedia’s hotels.com is the closest pure comp to booking.com, though on a smaller scale.

Booking.com’s pure hotel OTA model creates high margins and is why Priceline has a much larger market cap than Expedia despite similar gross bookings.

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Priceline has much higher margins than Expedia for a few reasons. Expedia gets 10% of its revenue from the lower margin airline business, Trivago is near breakeven as it invests for growth, corporate travel is, and will continue to be, a lower margin business than Hotel OTAs, and HomeAway is just starting its transition to Expedia in 2016 with a lower starting take rate. This compares with Priceline where booking.com drives results leading to a nearly 40% EBITDA margin. Priceline benefits from booking.com’s massive scale where it is able to reinvest the site’s strong free cash flow back into marketing the brand; we believe the vast majority of the company’s $2.8B 2015 online advertising expense was spent on booking.com. Expedia has a large marketing budget as well ($2.1B), but likely spreads it out more amongst its diverse brands.

The choice by booking.com to emphasize the agency model has helped it add massive scale; margins have benefited accordingly.

Another difference between the two companies is Priceline’s emphasis on the agency model. Priceline gets over three fourths of its revenue from agency revenue while Expedia gets just under one third. Under the merchant model, the OTA is the merchant of record where the travelers pay for the hotel when booking the reservation. The OTA actually does the booking, handles the payment, and takes on the associated risks. In exchange, the compensation would be higher than under the agency model where the OTA simply gets a commission for bringing the traveler to book his stay with the hotel.

Prior to 2005, the major U.S. OTAs (Expedia, Travelocity, and Orbitz) were emphasizing the merchant model with its higher fees. After Priceline acquired Booking.com and paired it with Active Hotels, which was acquired 10 months prior, the company continued to focus on the agency model that let hotels set their own prices and collect payments from the guests themselves. Because the agency model is easier to implement without complex negotiations over commissions or other policies, booking.com was able to add massive amounts of inventory, allowing it to become the largest hotel OTA with all the benefits of operating leverage leading to high margins.

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Source: Expedia and Priceline 10k Filings

 

Priceline has fewer key brands than Expedia and emphasizes lodging across its sites.

Booking.com accounts for most of Priceline’s profits. Priceline bought the Netherlands based booking.com in 2005 for only $133M and paired it with Cambridge, U.K. based Active Hotels, which Priceline bought 10 months prior for $161M. These purchases completely transformed Priceline into a dominant travel company seeing EBIT increase from $35M in 2005 to $3.3B in 2015. While not as well-known in the U.S. as Expedia’s HomeAway, booking.com has built out its villas.com platform to 515k rentals.

Norwalk, Connecticut based priceline.com focuses on the U.S. consumer and offers hotel, rental cars, and airfare along with vacation packages and cruises. It became known for the “name your own price” feature and opaque travel where the hotel is not known before booking; the name your own price feature has ended for flights, but continues for hotels and car rentals.

Priceline also owns Stamford, Connecticut based Kayak, which it bought in 2013 for $2.1B. Kayak.com is a leading metasearch site, but unlike Trivago offers airlines to go with hotels.

OpenTable, which is based in San Francisco, California, was acquired in 2014 for $2.6B and offers customers’ restaurant reservations. Priceline is adding locations and we expect OpenTable to be integrated into hotel bookings more than in the past. Priceline gets a reservation fee along with steady management fees to manage reservations for its clients.

Kayak and OpenTable account for most of Priceline’s $613M in advertising revenue, which combined for less than 7% of 2015 revenue.

Agoda.com is Priceline’s Asia-Pacific operation and is headquartered in Singapore. It operates in 38 different languages and was acquired in 2007. Agoda.com employs more than 2,000 travel professionals, representing more than 20 countries. There are major operations in Singapore, Bangkok, Kuala Lumpur, Tokyo, Sydney, Hong Kong, and Budapest, with an additional presence in major cities across Asia, Africa, the Middle East, Europe, and the Americas.

Rentalcars.com is the last piece of the company. It searches across the major rental car companies for the best deal. The company is based in Manchester, England.

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Expedia has more sites, but Priceline’s booking.com leads the industry.

The chart below lays out Expedia’s and Priceline’s website traffic data as captured by SimilarWeb Pro. “Monthly visits” is the most telling statistic as bookings growth is first driven by this. Duration and pages per visit are what they seem, while the bounce rate is the percentage of users that click one site and leave. One thing to note is that the totals do not include separate country versions of the domain name. That being said, we believe the main story is illustrated here with booking.com being a huge source of website volume for Priceline.

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Both Expedia and Priceline are well-positioned for future growth.

This is not a zero sum game where only one OTA can do well. We believe that both Priceline and Expedia will continue to grow, albeit with different drivers. For Priceline, we see continued growth in bookings combined with a steady to slightly declining take rate at booking.com as the key driver with international markets propelling bookings growth. While there is increased competition between hotels and OTAs in the U.S. for direct bookings, the international market is more fragmented with smaller hotel players that are better off using the OTAs to drive bookings rather than trying to aggressively market themselves and offer discounts. Trying to compete with the OTAs and large chains on their own is costly and even if successful could cost more than the take rates OTAs charge.

Expedia also has an international organic bookings story through hotels.com and the multi-product OTAs. However, the keys to growth here are the integration of Orbitz and the HomeAway business model change (to be discussed at length later in the report). With HomeAway in particular, increasing the take rate to a competitive level while steadily growing bookings could lead to operating income becoming multiples of what it is today. The metasearch business in Trivago will either IPO and create value that way or simply stay as is and see operating income accelerate once marketing spend normalizes.

The growth path is cleaner for Priceline without large-scale merger integration and business model changes, but Expedia has a very strong management team with a successful track record of allocating capital. While there could be setbacks along the way, like in the latest quarter, we do expect that Expedia succeeds with its business plans. For Priceline, we see continued operational excellence and steady growth ahead.

Ctrip and Expedia’s China Exposure

Ctrip is an exciting and complex story by itself and a deep dive into it could be the length of this entire report on Expedia. The following section is not meant to be such an evaluation, but rather to illustrate how Ctrip is impacting Expedia and Priceline.

Divesting eLong was an abrupt, but profitable shift.

Expedia had been in China since 2005 through a stake in eLong. This stake grew to 62.4% until it was sold on May 22, 2015 for $671M. This was a shift in strategy for Expedia, but should be viewed favorably as eLong was losing money and the capital invested there could be better deployed to Expedia’s other segments. The buyers included Ctrip.com International Ltd., Keystone Lodging Holdings Ltd., Plateno Group Ltd. and Luxuriant Holdings Ltd., with Ctrip taking a 37.6% stake. As part of the deal, Expedia and Ctrip “agreed to cooperate with each other to allow their respective customers to benefit from certain travel product offerings for specified geographic markets.” The degree of this partnership is uncertain, especially with Priceline having a stake in Ctrip.

The Ctrip/Priceline partnership could limit Expedia’s Chinese growth.

As of June 30, 2016, Priceline held $868.9M worth of Ctrip shares and $1.3B in convertible debt, which combined equates to a ~10% stake in Ctrip. Priceline has the right to acquire up to 15% of the company. With less than $400M in net income in 2015, a 10% stake would imply only ~1% impact to Priceline’s earnings from the investment. However, that is not the story here. Instead, it is that Priceline is powering much of Ctrip’s non-Chinese hotel inventory. For example, when we go to Ctrip and search for hotels in New York, London, or Paris, booking.com is frequently listed as a booking partner. When we search in Tokyo, Priceline’s Agoda is listed. To the extent that the outbound market grows, Priceline will benefit as a partner. They will share commissions with Ctrip, but this is a much safer and higher margin way to participate in a competitive Chinese market where the government has typically favored local companies; the battle in the semiconductor industry with Qualcomm is one such example.

With Priceline being a large shareholder in Ctrip, our best guess is that Ctrip retains Priceline for its key hotel partnerships and partners with Expedia for air travel. Ctrip generates roughly 40% of its revenue from hotels and 40% from transportation with the remainder mainly from packaged tours and corporate travel.

For Priceline, its large investment should help protect it from Ctrip trying to take share from booking.com. That being said, booking.com’s success and huge inventory is not something that can be easily duplicated and non-Chinese travelers in Europe have little reason to use a Chinese search engine even when the language is localized. For Ctrip, that is fine, as the Chinese population is so large that there is more than enough opportunity just within the Chinese population and Chinese people living abroad. If we look into the next decade a reasonable outcome could be Priceline dominating Europe, Expedia in the U.S., and Ctrip in Asia.

Ctrip is growing rapidly, though profitability remains lower than Expedia and Priceline.

Ctrip is clearly in a rapid revenue growth phase with revenue up almost 50% in 2015. However, it is spending heavily to fund this growth with 30% of revenue going to product development, 28% to sales and marketing, and 10% to G&A. The advertising spending and G&A dollars would be comparable to Priceline and Expedia, but the product development is much different. Ctrip includes expenses to develop its travel suppliers’ network and to maintain, monitor and manage its transaction and service platform. These costs are likely elevated by logistical ramp-up expenses rather than being long-term run-rates and include a lot of stock comp for adding employees. For illustrative purposes, stripping out stock based comp gets to a ~12% EBITDA margin (~6% without doing so). We do not remove these costs because they do not matter, but solely to show the economics of the business under normalized growth. Net income is not particularly useful for Ctrip as there are some noisy things embedded there such as a $383M gain from the deconsolidation of an investment in Tujia, a Beijing based home-rental site.

The main takeaway from the chart below is that Ctrip is growing nicely, but does not yet have the scale of Expedia or Priceline. As the Chinese outbound market evolves, there is room for Ctrip to continue to grow and it could eventually generate comparable profits to Expedia.

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Source: Company filings, Expedia excludes eLong

 

The Ecosystem Continues to Evolve

In the past, the typical person looking for a vacation for his or her family would start on Google as they attempt to figure out where and when they went to go; when Skift did its Trends report on Google, the company stated that 60% of travel search started with Google. After selecting a destination, they may return to Google again to search hotels or progress on their own to a metasearch site like Kayak, Trivago, or TripAdvisor. The traveler would then search by location and date to compare hotels and airlines to see where they could the best deal for their given budget and move on from there to booking (after checking reviews).

Let’s use the following example for the typical hotel booking pattern.

Google is used to choose a destination. After background research on Google, the traveler searches for “hotels in NYC”.

The top paid results are for Trivago, Expedia, hotels.com, and TripAdvisor. This illustrates the importance of Google to the OTAs and why they spend so much money on digital advertising.

The user clicks the first link for Trivago.

They search by price, hotel rating, and location within the city to find the best match. The offers will have one large link that will be the best offer; if the pricing is the same, the metasearch sites tend to steer to an OTA owned by the same parent company. Otherwise, it leads to the best price whether owned by a competitor or a hotel’s own site.

When the customer clicks the view deal button to book the trip, they are redirected to an OTA or a hotel’s own website to book the trip.

The customer would typically check reviews on TripAdvisor or Google along with the OTAs own reviews prior to booking.

The transaction is booked.

The ecosystem is evolving with each player looking to gain share in different parts of the process. The search part of the ecosystem has encroached on booking with Book on Google and Instant Booking from TripAdvisor. At the same time, the OTAs are emphasizing their own reviews and offering loyalty programs and special rates to attract customers directly to the OTAs at the start of the search. Metasearch sites have largely remained the same in terms of search of search engines, but Kayak does have a type of direct booking where they partner with other OTAs (including ones not owned by Priceline) and big hotel chains to book on Kayak. The goal would seem to be to split the booking commission from the hotel rather than just getting the ad dollars for referring the customer to the OTA. TripAdvisor, with booking.com as a key partner, is much more aggressive about becoming a booking site than Kayak; Trivago is in early stages of testing a type of instant booking as well. The hotels themselves are also competing more aggressively to get customers to book directly with them rather than using the OTAs for bookings.

Increased competition will likely lead to more advertising spend across travel. This is a headwind for the OTAs and a tailwind for Google and now, Facebook.

While the OTAs have attractive business models and have expanded their margins through the years, the advertising expense line item is one source of negative leverage. As the competition for all parts of travel has heated up, the OTAs have increased advertising spending. Priceline splits out online versus offline (television, print, etc.) while Expedia does not. That being said, offline ad-spend for Priceline has been small, in the 1-2% of revenue range, and has not changed much as a percent of revenue. The chart below shows advertising-spend growth for the two OTAs. Last year, they combined for almost $5B in advertising and both companies continue to increase spending as a percent of revenue. We fully expect this negative headwind to persist for the OTAs with positive operating leverage elsewhere helping minimize margin compression.

 

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Google has been one of the key beneficiaries of this advertising spend. Facebook is now competing for travel ad dollars though not in search. Facebook collects tremendous amounts of data on its users. While most users know the company has information about what is done on Facebook, many people do not realize that Facebook is able to see what sites a person visits even if they do not use Facebook on those sites. The company gets data as long as Facebook has technology used by that website. According to Facebook’s privacy policy:“We collect information when you visit or use third-party websites and apps that use our Services (like when they offer our Like button or Facebook Log In or use our measurement and advertising services). This includes information about the websites and apps you visit, your use of our Services on those websites and apps, as well as information the developer or publisher of the app or website provides to you or us.”Why this matters to advertisers is that a Facebook user who searches for a vacation to Italy may search numerous sites for information on the trip, but not book anything. Hotels or OTAs that are Facebook clients can use dynamic advertising to offer deals to that person specifically to Italy in the timeframe they are looking for. On the surface, this can seem invasive, but the user is getting a useful offer and advertisers are more likely to convert that user to an actual customer. The ads are “dynamic” in that the advertiser can target that person with relevant ads based on dates of travel, destination, and other details about the trip. Travel is a new area for Facebook, but could become meaningful.

Competition is heating up for hotel direct bookings.

If the OTAs and hotels were listing their relationship status on Facebook, it would fall squarely into the “it’s complicated” bucket. The OTAs clearly rely on the hotels for inventory and the hotels gain visitors and increase brand awareness from being listed on the OTAs. We believe that both sides recognize that the relationship is mutually beneficial, but disagree on the monetary value of the benefit. The hotels have long had rewards programs that guaranteed the best rates and offered other perks, but in August of 2015, Marriott launched its “It Pays to Book Direct” advertising campaign aggressively promoting the benefits of booking directly on the hotel website. Other large chains were not far behind with Hilton’s “Stop Clicking Around Campaign” hitting in February of 2016 and Wyndham’s “Wyndham Rewards Wyzard” promos beginning in May. Hyatt was a bit more subtle with its Gold Passport membership deal with up to 10% discounts launched in April 2016. Intercontinental’s “Your Rate by IHG Rewards Club” started in May and offered exclusive rates to members who booked direct while Choice’s 7% promo hit in July. Accor and Starwood stayed the path offering best rates and deals on their websites without aggressively spending on large marketing campaigns.

What have the key players said so far?

On Expedia’s second quarter earnings call, CEO Dara Khosrowshahi offered a lengthy rebuttal to fears that the aggressive marketing from the large chains was hurting them. The key point here is that, so far, there has been share shift versus damage to Expedia.

“We have 18,000 statisticians looking every which way at every angle to see whether it has affected us. The short answer is that we haven’t seen any real correlation in our performance in chain-heavy markets versus chain-light markets.”

“You would think that in a market that has lots of chains, you would see some conversion degradation or performance degradation to the extent that inventory quality is lessening. But we haven’t seen any of that whatsoever. It may happen, it may not happen. But to date we have not seen any correlation at all. What we have seen is we have seen a shift of our bookings from some of the chains that are discounting to independents and/or chains that are not discounting.”

On its recent earnings call, Priceline’s Chairman and Current CEO Jeffery Boyd not so subtly told investors and the hotels that the OTAs are prepared for a pricing battle, but it is in nobody’s best interest to do so. We agree with his assessment in that even with the franchise model part of the hotel business at nearly 100% incremental operating margins on licensing, the hotels do not want go down the perpetual discounting route, which not only lowers average revenue per room, but also requires marketing spend to take and keep share from the OTAs.

“So with respect to the competitive environment and the hotel direct book, the hotels have consistently been working hard over the years to maximize the traffic that goes to their own direct websites, and they’ve done it over the years through driving single image pricing, through a very substantial investment in their own web experience, and we look at the availability of different prices for their members on the website as an evolution of that effort. Our approach is to try to make sure that our customers have the best prices that are published and available, and I think we’re doing a pretty good job of accomplishing that. And I think that given the scale of our business, we’re in a position where it’s a reasonable ask that the largest player in the space be able to show competitive prices to its customers.”

“My belief is that those efforts will continue, and we’ll continue to press to make sure that we’ve got competitive pricing. And I will say that if over the long-term the efforts by the chains or others is essentially starting to drive consumers to expect to book only discounted prices rather than published retail prices that the ultimate impact of that on hotel ADRs is probably not going to be great for the chains. And companies like ours and other large competitors are in the space are very well-positioned to advertise substantial discounts as well. And so my comment there is at some point, it actually might not be a great idea to push the market and push consumers into expecting to book only at discounted prices.”

Hilton, Marriott, and Hyatt all commented on the early success of their programs. Choice was aggressive in their commentary towards the OTAs while Accor was more pragmatic.

Hilton

“Our customers don’t need to worry about sorting through a dizzying array of websites, enduring hundreds of clicks and wasting hours of time. They can be assured that booking a room directly with us at any of our hotels doesn’t require extensive searching and price checking to find the best prices online,” February 16, 2016, Geraldine Calpin, Chief Marketing Officer

“Last year, 57 billion Hilton HHonors Points – or more than 1.6 million free nights – went unearned because guests booked their stay through a third party…There is a huge misconception that third parties always offer lower prices for our hotel rooms, which is simply not true.” February 16, 2016, Mark Weinstein, global head of Customer Engagement

“In the quarter, the pace of Honors enrollments was up nearly 80% year -over -year, adding 2.4 million new members for a total membership of over 55 million. Honors’ share of occupancy was nearly 56% in the quarter, up over 400 basis points year -over –year.” CEO Christoper Nassetta, Q2 earnings call, July 27, 2016

“I think at a high level, you look at what’s going on with HHonors membership, up 80% year-over-year. You look at the channel shift that’s occurring to our direct channels from other channels, particularly the OTAs, all at the same time gaining market share, okay? So, you put all that together, I’d say we’re having very good success, but it’s early days clearly, this just really kicked off in February, March. It’s going to go on for years.” CEO Christoper Nassetta, Q2 earnings call, July 27, 2016

Marriott

“I think what we are seeing in our Marriott Rewards Member Only rates is very encouraging. We continue to see strong year-over-year growth in Marriott Rewards sign-ups. We see that the occupancy contribution from the rewards program is in the high 50s percent of contribution to the hotels. We see strong growth in apps download and Marriott.com business and mobile bookings and all of those things so we are encouraged by that.” CEO Arne Sorenson, July 28, 2016, Q2 earnings call

“…sometimes contrary to the advertising or perception that is out there in the market but make it crystal clear that the rates through our channels are at least as good if not better than the rates that are available anywhere else. And obviously if that drives a meaningful share shift towards our channels, that is a good thing and that is the bet we are making and we think it is a good bet.” CEO Arne Sorenson, July 28, 2016, Q2 earnings call

Hyatt

“The program continues to drive engagement of our Hyatt Gold Passport members while increasing penetration of our hyatt.com distribution channel, which is a cost-effective channel for us. Importantly, we do not believe member discount is negatively impacting our top-line. In fact, a majority of hotels utilizing member discount rates are gaining share in both ADR index and RevPAR index compared to prior year. Since the rollout of the program, over 70% of the revenue associated with member discount click-throughs has been sourced from new or previously inactive Gold Passport members.” —CEO Mark Hoplamazia, August 2, 2016, Q2 earnings call

Choice

“You’re going to continue to see us try to drive business to our channels simply because they’re dramatically more profitable than an OTA trying to suck 15 percent to 20 percent out of the deal. And so we’re not anti-OTA, but we are not at all happy with some of their practices and we’ve never been happy with their pricing. We think it’s overrated for what they provide.”—CFO David White, May 5, 2016, Q1 earnings call

Accor

Sebastien Bazin, AccorHotels CEO, told Skift in a separate August interview: “Are they [hotels launching direct booking campaigns] going to be successful in taking market share away from Booking and Expedia? I doubt it.”

The largest hotels are a small portion of the OTAs listings.

The largest hotels certainly have meaningful inventory, but that it is a fraction of what Expedia offers across its sites and even smaller if we include HomeAway’s alternative lodging options. If we add all the hotels below, they combine to account for ~13% of Expedia’s supply of hotels and ~2% of its total supply including alternative lodging.

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How does this play out in the coming years?

While there are many ways this could sort itself, we attempt to outline what we think is the most likely path with the following predictions.

The aggressive marketing campaigns for direct bookings will continue for the large hotel chains through 2017, but perpetual discounting will not be the future of the industry.

The hotels have made it clear that this is not a quick campaign, but rather a long-term strategic move. We expect the television and online advertising campaigns to push the benefits of direct booking and emphasize that the best rates can be found that way. Part of the initial push has been reduced rates for loyalty members booking directly. This is a smart strategy to increase brand loyalty by the chains, but to do this in perpetuity would essentially just mark down average revenue per room to a lower run-rate. If we assume the OTAs broadly take a 15% fee from the large chains (more from the independents), hotels would theoretically be better off offering a 10% discount to all direct bookings. The risk here is too great for the chains (and the OTAs) that consumers become trained to believe that every list price will be discounted. Should the hotels discount aggressively for the long-haul, the OTAs can retaliate with pricing discounts of their own and adjust search results, leading to some share erosion for the chains.

Take-rates for the largest chains could gradually decrease a few percentage points over the next several years.

Rather than the hotels and OTAs spending many years battling on the marketing side and undercutting each other on pricing, they could privately reach agreements on somewhat reduced take rates based on volume and hotels could offer concessions on not discounting for direct booking and instead focusing on loyalty rewards regardless of how the transaction is booked. The hope for the hotels would be that they satisfy the customers to such a high level that the OTA becomes more of an initial marketing expense for new visitors, but those visitors want to stay at that brand when possible going forward. This could increase the likelihood that they go down the direct booking road on their own out of satisfaction with the hotel versus other lodging options.

The OTAs and hotels are likely to continue to form new partnerships.

As of September 1, 2016, Expedia and Marriott reached an agreement where Marriott would pay Expedia to use its technology to operate the Vacations by Marriott website in the U.S. Additionally, customers can now combine lodging with flights using over 475 of Expedia’s airline partners. Expedia will also provide ground transportation, tours and activities while all the hotels are from Marriott. The site looks like an Expedia one, but is solely branded as Marriott. The rationale for Marriott is clear in that it can piggy-back on Expedia’s technology and search expertise and use Expedia’s non-hotel relationships to build packages while avoiding a mid-teens commission on as many hotel bookings as possible. For Expedia, it opens up a new monetization stream on something that the hotel is already doing anyway.

For hotels lacking the massive budget and scale of a Marriott or Hilton, the Red Lion Hotels deal announced in August could be a more representative blueprint. Red Lion, which owns 114 properties in the U.S. and Canada, will show the non-member higher rate and the reduced member rate on Expedia. If the customer chooses the lower rate, which most would, she will be automatically enrolled in the Red Lion rewards program. Additionally, Red Lion will receive the confirmation of booking with the customer’s email; OTAs normally do not share this information with the hotel. This lets the hotels communicate with the customer directly prior to arrival, improving satisfaction of the guests. It also lets them market related services like dining for the current trip and lodging for future ones. The deal is not exclusive so Red Lion can offer the same terms to other OTAs or metasearch sites and Expedia can provide the same type of arrangement for other chains. This sort of relationship lets Expedia keep its economics while Red Lion gains volume and more data on its rewards members without aggressively spending ad dollars in hopes of getting more direct bookings, where they are also competing with the large hotel chains for brand awareness.

Expedia has been more aggressive than Priceline here as the booking.com’s more international focus has less large chains competing for bookings than Expedia. Expedia derived 44% of its revenue in 2015 from outside the U.S. with a long-term goal of generating at least 65% abroad. Priceline is more international with 80% of revenue, 88% of gross bookings, 86% of gross profit, and 94% of 2015 operating income being classified as international. There is some non-comparability here though with Priceline including U.S. bookings done on booking.com as international due to the business being based in the Netherlands, but broadly, booking.com is more international than Expedia. Website traffic from the U.S. is indicative as well with 81% of brand Expedia’s traffic from the U.S. (42% for hotels.com) versus only 8% for booking.com according to SimilarWeb Pro.

Small chains and independent hotels will continue to rely on OTAs as an effective channel to fill occupancy.

When a person is traveling internationally, the OTA is especially useful for smaller chains and independent hotels. First, and most simply, if a resident from Spain were looking to travel to Japan and wanted to stay at an independent Japanese hotel, chances are that most hotels would have one website in Japanese and maybe English. The OTAs can facilitate transactions in many languages and offer localized support. Secondly, that same traveler would be searching for something like 4 or 5 star hotels in Kyoto with positive reviews and under a given budget. The independent hotel would not be able to reach this international traveler without being on the OTA so a 20%+ fee is cost effective.

More direct bookings for large chains could actually still be a win for all parties involved due to different pricing levels from the OTAs; this assumes the sides do not engage in long-term, permanent room discounting.

In a hypothetical scenario where the hotels succeed at pushing direct bookings higher without constant, steep discounting, all parties could win over the long-run. For the hotels, clearly the more direct bookings they generate, the better. The OTAs do not need to replace all lost volume from large hotels to be neutral to profits since the commissions paid by smaller chains and, especially, independent properties are much higher. For illustrative purposes, if we assume a 15% rate on the large chains and 20% for independents and small chains on average, the OTAs would only need to replace 75% of the volume lost to direct bookings with the smaller and independent hotels to break even. Given that they have not lost net volume so far, we could see 90%+ of this volume being replaced, which would effectively increase the take rate 3% points to 18%. It is also worth noting that both Hilton and Marriott have stated that the percentage of guests booking and utilizing rewards (proxy for direct booking) was in the mid to high-50s. This means that the worst case volume to lose from the big chains could be less than half of their listings. The smaller hotels were already paying these type of OTA fees, but would now get more share from the chains and increase their bookings without having to market heavily to do so.

Expedia’s Successful Track Record Continues

Since the 2013 stake taken in German metasearch company Trivago, Expedia has been very active acquiring companies, spending ~$7.3B on full purchases and joint ventures. It further consolidated the OTA industry in the U.S. by acquiring Travelocity and Orbitz and made a push into alternative lodging with HomeAway. The three most important acquisitions (for very different reasons) are likely to be Trivago, Orbitz, and HomeAway. Trivago is aggressively marketing as revenue continues to accelerate. The company recently announced it intends to explore an IPO. Orbitz adds to Expedia’s core OTA platform and synergies could help propel earnings growth in the coming years. With its business model change, HomeAway could very well be the most transformational acquisition of the three. We will discuss all three platforms below.

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Source: Expedia Filings, Trover Website

 

The Orbitz integration has near-term headwinds, but the long-term synergies are compelling and, we believe, very achievable.

Expedia acquired Orbitz for a ~$1.8B enterprise value on September 17, 2015 after announcing the transaction in February. The purchase included $1.4B in cash and $432M of pre-existing Orbitz debt.

Orbitz increases scale for Expedia’s OTA business.

Orbitz generated $12B in gross bookings, $930M in revenue, and $155M in EBITDA in 2014. For context, Expedia had $48B, $5.6B, and $1.1B respectively amounting to Orbitz being 25% of bookings, 17% of revenue, and 15% of EBITDA for Expedia. Revenue and bookings for Orbitz skewed more towards lower margin air travel (62% of bookings and 25% of revenue in the last quarter as an independent company) and domestically (85% of bookings). This differs from Expedia’s hotel driven business where airlines are more additive and help with cross-selling hotels. Despite that, industry consolidation makes sense and the scale creates profitable synergies.

image011

Source: Expedia filings, excludes eLong for Expedia

 

The Orbitz deal is different than the Travelocity one.

When Expedia bought Travelocity, it had already been powering its technology, supply, and customer service for Sabre. It was later that it purchased the entire brand so the integration was phased in over a longer period of time than the Orbitz one. The brands housed under Orbitz included Orbitz itself along with CheapTickets, ebookers, and HotelClub along with Orbitz for Business and the Orbitz Partner Network, which also makes the integration more complicated than the single-brand Travelocity tie-in.

The Orbitz integration is progressing quickly.

By the end of March 2016, Orbitz.Com and CheapTickets.com were migrated to the Expedia platform, offering customers an additional 130,000 hotels to choose from. HotelClub was also migrated to Hotels.com. As of June 31, 2016, the Orbitz and CheapTickets apps and ebookers site and app were fully integrated. Orbitz for Business has been moved on to the Egencia platform. The Orbitz Partner Network will be in the Brand Expedia and Expedia Affiliated Network groups. These relationships are more complicated so the completion of integration could be pushed back to 2017.

image030

 

The complexity of the integration led to issues in the latest quarter, but these should prove to be temporary.

While the pace of integration is a positive, Expedia faced a few self-inflicted issues in Q2’16. The pace of integration of its acquisitions combined with organic growth strained Expedia’s infrastructure, affecting network quality and uptime (when the system is operational). Additionally, Expedia diverted much of its tech and product resources teams onto the integration. The integration progressed ahead of schedule, but negatively impacted conversion. Management emphasized that these issues are behind them and Expedia is back on track for its usual strong execution into the second half of 2016 and beyond.

Potential synergies could easily exceed $100M.

The first public synergy estimate Expedia provided was $75M per year once fully integrated. This would imply $0.75 added to Expedia’s fully-diluted adjusted EPS run-rate or roughly 13% above Expedia’s stand-alone 2015 EPS.

Some of the potential synergies are the elimination of Orbitz’s public company expenses, cross selling Expedia’s hotel inventory at better unit economics on the Orbitz platform, and a reduction of redundant corporate expenses.

Since the initial announcement, management has stated that they see “meaningful upside to the initial synergy estimate”. To quantify what this potentially means, we took the standalone pre-acquisition costs of Expedia and Orbitz as a run rate and then extrapolated a reasonable path post full integration.

Cost synergies alone could hit the $75M guidance target.

The chart below outlines what the G&A and marketing expenses of each company were before the acquisition. The revenue numbers include eLong to keep costs comparable as a % of sales.

 

image032

Next, we made a number of assumptions to derive a cost synergy estimate. With the Chicago Sun Times reporting 40% of the workforce in Chicago reported to be cut, we use the G&A number from Expedia and 50% of the wages from Orbitz as an approximation for future wage costs. On the technology front, this should be integrated into Expedia over time. We remove Orbitz’s contract labor costs, redundant technology expenses, and other items, which include professional fees, currency, hedging, and administrative costs. This superficially would take the synergy rate to close to $200M, but it is likely that marketing costs follow Expedia as a percent of revenue, so the spend rate would move up to Expedia’s rate. All in, this gets to a $75M run rate on cost synergies excluding revenue synergies.

image034

 

Revenue synergies create upside to guidance.

On the revenue side, Expedia took Travelocity from declining sales to 10%+ growth while significantly reducing the cost structure. With Orbitz, Expedia had several percentage points higher conversion rate of 2014 revenue versus bookings. Additionally, as a much larger player, Expedia would get better rates on its inventory. A larger hotel inventory could help cross-selling air travel and car rentals. Given the multiple levers to pull, 5-10% revenue synergy seems very attainable. Taking the mid-point at 7.5% and assuming a 40% EBITDA margin on that incremental revenue gets to another $28M for ~$103M in total synergies. The point of the exercise is not to show that we know the exact run-rate (we don’t), but rather to support Expedia’s claims that $75M is very attainable and the final number will be above that.

Prediction

We believe Expedia surpasses its $75M guidance and the Orbitz integration headwinds fade in the coming quarters.

image036

 

Hotel metasearch business, Trivago, offers an impressive growth path with a potential IPO on the horizon.

Expedia owns 61.6% of German hotel metasearch company Trivago. The company was launched in 2005 and Expedia acquired its stake in 2013. Trivago operates in 55 markets under 33 languages for 120 million unique monthly visitors. Its vast inventory includes ~1 million hotels, 250+ booking sites, and 100+ hotel chains.

Revenue is growing rapidly and profitability will follow when marketing spend normalizes.

The unit operates independently from Expedia and is growing revenue well above the rest of the total company rate with a 78% CAGR from 2011-2015. It is aggressively expanding in new markets. Within its 16 core European markets, Trivago has been growing revenue at a 20% rate with a 25% contribution margin. In its new markets, revenue growth has been 130%, but it is not making any profits there yet. Expedia is spending 80-85% of revenue on marketing. The TV marketing strategy is to show hundreds of versions of different ads and see which ones work well. Trivago works with Google and Facebook as well on the digital side. At some point in the coming years, Trivago revenue growth will mature and marketing spend will come down, leading to meaningful EBITDA growth.

image013

Source: Expedia Investor Presentation

 

A Trivago IPO could unlock value for Expedia while monetizing the founders’ minority stake. We believe Trivago could be worth as much as $3-4B.

On the Q2’16 earnings call, Expedia announced that they are exploring an IPO for Trivago and hope to complete it by year-end. On September 15, Reuters reported that Expedia chose JP Morgan, Goldman Sachs, and Morgan Stanley as the lead coordinators; this means that the IPO is likely to happen. Expedia carries its non-controlling interest in Trivago at $978M, up from $654M at year-end 2015. Press reports have rumored a $1B IPO value, but these are not substantiated and likely would be the value of the minority interest stake only as Expedia is not looking to sell its shares. All things equal, the carrying value on the balance sheet implies a total ~$2.5B value for Trivago versus its $925M acquisition implied value back in 2013. TripAdvisor currently trades at 6x revenue. Using that multiple on Trivago’s $660M trailing twelve month revenue would imply a $4B value or roughly 25% of Expedia’s current market cap.

Normalized margin and growth supports our views on valuation.

Expedia has stated that the contribution margin for the core Trivago markets is 25% on average with 20% growth rates. This makes sense as the Core OTA business has a 27% EBITDA margin. If we assume a 20% run-rate on revenue through 2020 and a 25% EBITDA margin, the implied enterprise value would be $5.8B. Using Expedia’s current 2015 17x EV/EBITDA multiple and a conservative 12% discount rate and assuming that Trivago takes on 10% of Expedia’s net debt based on its percentage of contribution to parent revenue would imply a $3.7B enterprise value or $3.5B equity value.

A $1B+ IPO is likely to occur, but only for the non-controlling shares.

We believe that the most likely scenario is that Expedia completes an IPO of Trivago, but only sells the non-controlling interest of the founders. Even though the potential value could be $4B, that would likely get hair-cut in the IPO both due to the large majority stake from Expedia (limited float, potential overhang if they decide to sell) and the typical IPO process where the shares are a bit underpriced to make sure the offering is successful; companies do not want to see the shares fall on the IPO. If we assume a total IPO would be in the $3B range, then an IPO of the non-Expedia owned shares would be valued at $1.15B.

With Expedia likely retaining its stake, Trivago would probably still be consolidated into its financial statements and Expedia would still exert similar influence. We believe that once Trivago matures and becomes profitable, a full spin-off of the Expedia owned shares will happen. This would let the company separate Trivago at the right stage of maturity and avoid tax consequences from selling its stake.

HomeAway should prove to be a transformational acquisition.

HomeAway brought Expedia a vast portfolio of unique properties as the company continues to add global scale. At the time of the acquisition in December 2015, HomeAway had 1.2M vacation properties across 190 countries with 40 websites in 20 languages leading to $14-16B in annual bookings within the $100B+ global alternative vacation lodging market. The key brands in the U.S. are HomeAway, VRBO, and Vacation Rentals. International sites include Abritel and Homelidays in France, Toprural in Spain, Stayz in Australia, and OwnersDirect in the UK. There are also HomeAway localized sites outside the US (i.e. HomeAway.de in Germany). Suppliers have been loyal to the brand with a 72% subscription renewal rate. By combining with Expedia, volume should increase as traffic will also be driven by Expedia’s other brands with HomeAway inventory eventually being on the core OTA and metasearch platforms.

The business transformation from a listing-based model to a transactional one combined with new booking fees and online bookability will drive better monetization and higher take-rates.

When Expedia bought HomeAway, its 3% take rate was meaningfully behind its competitors with Airbnb at 10-12% and Booking.com at 15%; Expedia is targeting an 8-10% rate over time with a new consumer fee being a key component of this.

The commission model adds more volume to the platform and helps add new suppliers.

When HomeAway started in 2005, revenue was driven by annual subscriptions paid by the suppliers. In 2014, the company started a commission model where suppliers could pay a fixed annual fee or a 10% commission on bookings. By the end of 2015, 50% of suppliers were on the commission model. The commission model helps attract new users and adds volume to HomeAway. The property owner that is new to vacation rentals would prefer to only pay if they are successful renting out their home rather than paying annual fees regardless. Additionally, owners with limited inventory that may only rent it out on special occasions or parts of the year would prefer a commission model where the only costs are reduced profits rather than the risk of upfront payments. The person that is unsure about trying to list their property is more likely to do so if it does not cost them anything upfront. The property owners with multiple homes and large amounts of inventory would tend to stick with the subscription model to maximize their profits per booking and take on the upfront fee risk.

Online bookability keeps users booking inside the ecosystem.

An equally important part of the business model change is the push to make nearly all listings online bookable by the end of the year from 56% in late 2015. The more transactions are online bookable, the less likely it is that a consumer finds a listing on HomeAway and the supplier pushes to book off the system to avoid paying fees to HomeAway; commissions will now be paid by both the consumer and supplier (more on this in the subsequent section). In addition, HomeAway tells Skift that 150,000 of its more than 1 million listings are now instantly bookable, meaning the consumer doesn’t need to wait up to 24 hours to get an answer to a booking request. Airbnb, meanwhile, with some 2 million listings, has a goal to make 1 million of its listings instantly bookable by January 2017.

Moving away from opaque, offline booking makes the business more scalable.

We fully expect Expedia to use its core OTA platform to increase traffic to HomeAway. To accomplish this, new users searching for lodging on Expedia would need to be comfortable booking an alternative lodging option. The more similar the booking process is to that of a hotel, the more likely a consumer is to try it. The key factors for a new user here would be the security of online booking where Expedia guarantees the transaction financially and also that the property is as advertised.

Actual online booking has lagged bookability, but this trend should change.

On its initial conference call after the acquisition, Expedia noted that only between 25-33% of HomeAway’s bookings were actually done online. We believe there are several likely reasons for the lag in actual online booking. The first is simply familiarity as users and suppliers who had been booking offline initially stay with what they have been doing. The second is that the previous subscription model gets phased out as each supplier’s yearly contract ends. After that point, they can choose a $349 subscription if their listings are online bookable and payable and $499 if not. While the old contracts are in place, listings that were not online bookable may become so, but there is little incentive to push the customer that way. On the customer side, they are weighing the trade-off of the 5-6% fee for online booking’s simplicity and Expedia’s guarantee of the property’s quality versus working with the supplier offline to avoid the fee. Going forward, Expedia and HomeAway will reward its best suppliers (those with online booking/payment, calendar updates, quality pictures, reviews, etc.) with better placement in the HomeAway sort of default search results. As the new contracts start, we expect more bookings to be completed online.

We believe that 80-90% of listings will be online bookable by year-end.

While there has not been a direct update on the progress of online booking as a percent of bookings, management has provided a few details that allow us to extrapolate the progress. In its latest earnings release, Expedia noted that there were 1M online bookable listings at HomeAway. From 2012 through 2015, total listings grew from 712K to 1.2M. The growth rate has averaged 20% over the past three years. If we assume that listings increased 10% from year-end, that would imply that online bookable listings are at 73% of total listings and on pace to hit 80-90% by year-end.

The consumer fee adds to the take-rate, but has been somewhat controversial so far.

As part of the online booking push, on average, a 6% traveler service fee has been implemented on the consumer; ~5% if the supplier handles the credit card processing itself. As a partial offset, the commission rates for suppliers were lowered from 10 to 8% and incentives for subscription based suppliers have been offered. While there is a new fee for customers, having the ability to book online like a hotel and having Expedia guarantee its listings and protect the customer from fraud are also improvements. The “Book with Confidence Guarantee” protects consumers if there is a dispute with the owner, dislike of the property, and other issues.

The introduction of the travel fee has agitated some suppliers as they assumed that the unique value proposition to customers of no fees would continue indefinitely. In fact, some have filed a lawsuit against HomeAway. With OTAs and Airbnb effectively charging 10-15% for bookings, it makes intuitive sense that Expedia would look for the same. 8% on the commission from the supplier and 5-6% from the consumer implies a total 13-14% range. With 50% of the suppliers on the subscription model without the supplier commission, those bookings would only have the 5-6% customer fee. The net would be a 9-10% average take rate plus subscription fees.

From Expedia’s perspective, the logic behind the consumer fee is clear. Competitors’ take home much more per transaction and Airbnb already charges a similar fee. As the company continues to increase the volume of alternative listings and aggressively spends on marketing to do so, it is imperative that the website and app are best in class and that consumers are protected against any type of fraud or misrepresentation. In response to complaints, HomeAway Co-founder Brian Sharples offered a bulleted list of key enhancements the fees help cover:

Provide transparent price and availability data so travelers can get accurate quotes online

Back up every transaction with a strong guarantee, instilling trust in new travelers who are unfamiliar with our industry and how it works

Invest heavily in brand and online marketing to compete with other travel alternatives such as hotels. Now that vacation rentals are mainstream and the category is large, we need to work harder than ever to bring in more travelers

Protect the rights of owners to rent their homes on a short-term basis. We are currently fighting battles in dozens of cities and investing millions of dollars to maintain your ability to rent out your home to guests.

 

Some suppliers are overlooking the fact that by being part of Expedia, potential volume could increase dramatically over time.

As more alternative lodging is put on OTAs and metasearch engines, new customers will try vacation rentals. Having the transactions be as seamless as possible, financially secure, and guaranteed will bring more users to HomeAway and that volume should more than offset any initial lost bookings.

With competing websites already charging similar fees for alternative rentals and HomeAway’s vast inventory of unique properties, we expect consumers to remain loyal to the platform, but demand more of HomeAway in return.

On the consumer side, many people who have used HomeAway in the past appreciated that they did not have to pay a booking fee. While some would prefer no fees and a more “classified ad” type interface with little third party interaction, that model is not feasible with well over 1 million listings in 190 countries. Additionally, the way the costs were disclosed was not clear enough for some and caused confusion. HomeAway apologized for this and has added language to show that the fee goes to HomeAway and not the supplier. With unique and vast alternative vacation inventory, it seems very unlikely that many consumers leave the platform; this is especially true given that Airbnb already charges a similar fee and smaller competitor FlipKey (owned by TripAdvisor) charges even more. Consumers will expect the guarantees on security and quality to be 100% secure and expect the websites and apps to be intuitive, easy to use, and useful; this is on top of expecting significant inventory across price points with accurate information and updated calendars.

So far, the noise has been greater than the actual impact.

On the past two earnings calls, Expedia noted that conversion was down slightly in the first quarter of the year when the fee started, but actually ticked back up in Q2. Overall, it has seen little change in consumer behavior despite fears to the contrary.

There is plenty of room for both HomeAway and Airbnb to grow supply and bookings.

HomeAway has traditionally been focused on second homes in vacation destination markets while Airbnb has targeted primary residences in urban markets. When Expedia bought HomeAway, 20-30% of total properties had overlap with Airbnb. Additionally, with less than $1B in bookings being derived from urban, primary homes, we estimate that less than 7% of its listings would compete with Airbnb’s dominant position in the urban space and the remaining overlap is from Airbnb being in HomeAway’s core market.

Expedia will likely use their other platforms to drive more results into the alternative rental space. This will be the cheaper way to move into urban markets without paying to advertise heavily. That being said, the most likely scenario playing out is that each entity continues to dominate its niche while incrementally adding growth from the other’s core market. This does not mean that they will take share from each other, but more likely it will play out similarly to what has happened with Expedia’s OTA business versus Priceline’s booking.com, where both have done extraordinarily well as the entire market grew.

Airbnb website traffic versus HomeAway.

HomeAway has averaged 13.4M monthly viewers in the past 3 months versus Airbnb at 62.2M. However, if we add in all the HomeAway brands (VRBO, etc.), monthly usage is 45.5M. Airbnb users also stay on the site longer, visit more pages per visit, and are less likely to click one page and leave (the bounce rate). TripAdvisor’s Flipkey is far smaller with less than 2M viewers.

image039Source: SimilarWeb Pro

Expedia’s 2018 $350M EBITDA target looks very attainable and the longer-term growth opportunity is meaningful.

Expedia’s $350M EBITDA target seems lofty at first glance as it implies EBITDA increasing 180% from 2015 to 2018. The key levers it will pull are increasing bookings volume and moving the take rate towards its peers. If bookings grow 20% per year and HomeAway achieves an 8% take rate by 2018 with a 20% EBITDA margin (18% YTD and was mid-20s before the acquisition), Expedia would hit the $350M mark. If margins can reach 25%, EBITDA would hit $430M.

As we look out to 2020, if the take rate gets to 10% with the same trajectory and margins, EBITDA would be $620M or over 50% of Expedia’s 2015 EBITDA. Superficially, we can stretch the assumptions for a best case scenario where we assume a 25% margin and a 15% take rate for $1.2B in EBITDA, which would be greater than the entire Expedia EBITDA last year. However, this is not likely to occur as it implies all transactions would be on a full supplier commission model. Given that suppliers were upset at a customer service fee that will not likely impact them economically; we think it is in everyone’s best interest to keep the subscription model an option, which keeps larger suppliers loyal to the platform. The strategy to eliminate the subscription fee and be solely commission-based would have high potential returns, but hurt their relationships and could see inventory pulled to other sites.

Could There Be More Industry Consolidation Ahead?

After Expedia’s latest acquisition spree, TripAdvisor is the one remaining large publicly traded company that looks like it could be a prime M&A target for the large OTAs (Expedia and Priceline) or tech companies expanding into travel (Google, Facebook, and Amazon). The proverbial wildcard buyer could be an international player like Ctrip.

The most likely buyer of TripAdvisor is Priceline.

With more than a $70B market cap and less than $3B in net debt, Priceline certainly has the means to buy TripAdvisor, which has an $8.8B market cap and $8.1B enterprise value (the company has a net cash balance sheet).

Why would Priceline buy TRIP?

TripAdvisor, with its large audience, is an effective marketing tool to increase traffic to booking.com.

TripAdvisor has stated that it has ~350M in average monthly unique visitors based on its ComScore log files. The most obvious benefit is Priceline would now have 350M (minus the overlap of users that use both sites) people to market to and could push booking traffic from TripAdvisor to booking.com via integration on one site or using the results to link to booking.com as it now does with Kayak. Also, by acquiring TripAdvisor, Priceline would no longer have to pay to advertise on the site as a third party. We believe the large share of its digital ad budget goes to Google, but removing TripAdvisor as a cost would reduce its digital advertising expenses, which are 30%+ of sales (and growing).

By adding more reviews, Priceline would improve the user experience and reduce “slippage.”

Booking.com has ~105M reviews compared to TripAdvisor at 385M. By adding these reviews to booking.com, Priceline is less likely to have “slippage” where a customer goes through the search process, chooses a potential hotel on booking.com, but then checks reviews on TripAdvisor and moves on to book somewhere else. More reviews improve the user experience, create better brand loyalty, and make booking.com more of an all-encompassing platform that keeps users on its site through the process.

Booking.com has dominated in Europe, but not in the U.S. TripAdvisor could diversify Priceline’s revenue stream.

TripAdvisor generated $775M or 52% of its revenue from North America in 2015 while most of booking.com’s revenue is from overseas, specifically Europe. For context, TripAdvisor’s total revenue in 2015 was 16% of Priceline’s. If Priceline were to buy TripAdvisor, it would own a very well-known brand in the U.S. that could increase traffic to booking.com. The positive of adding U.S. exposure is that there has been less terrorism and geopolitical risk than in Europe. The negative is that the U.S. market has a higher concentration of large hotel chains competing for direct bookings than in Europe.

For OpenTable, the situation is reversed where it is primarily a U.S. business and expanding internationally. TripAdvisor’s, TheFork, is focused on Europe with key markets in France, Spain, Switzerland, Belgium, Italy, and Sweden. Combining the two would benefit OpenTable directly and more importantly, could help Priceline integrate bookings, reviews, and restaurants into its key booking.com platform.

Potential synergies could be meaningful.

TripAdvisor’s marketing costs would be a much lower percent of revenue given booking.com’s size plus Priceline’s ability to monetize marketing dollars could lead to more revenue generated per dollar spent. Potential cost synergies would include the removal of duplicative operational costs in things like public company charges and reduced headcount from overlapping roles.

The barriers to getting a deal done are significant.

Valuation could be prohibitive.

While TRIP shares are down almost 30% YTD, they are not particularly cheap trading at 30x 2017 consensus expectations versus PCLN and EXPE at 17-18x. If we use Free Cash Flow, the metrics are a bit closer at 24x for TRIP versus 20x for PCLN and 19x for EXPE. The premium multiple for TRIP is not really because growth is accelerating. We believe it embeds some take-out premium and assumes that TRIP succeeds in its direct booking push.

While revenue has been growing nicely for TripAdvisor, EBITDA margins have continued to decline. Revenue growth since 2012 has been 20%, 24%, 32%, and 20%, while margins have compressed (from high levels) with EBITDA margin over the same time period at 46%, 40%, 38%, and 31% respectively. The most impactful change in the cost structure has been in sales and marketing, which have grown 37% on average the past two years jumping from 40% of revenue in 2014 to 46% in 2015. This has stabilized in 2016 with it being 46% YTD. However, EBITDA margin has come down to 24% with revenue down 3% YTD due to the business model switch being phased in.

We believe this is a case where the multiple will be justified if the direct booking push works and revenue and EBITDA accelerate, but would be stretched if the transition falters.

If we assume that if Priceline were going to buy TRIP, it would logically follow that it believed the TRIP transition would be successful or that the asset would be strategic enough that it would not need (or even want) to push direct booking. The economics are likely much lower on hotel bookings from TripAdvisor than on booking.com as the former is more a meta/OTA hybrid. Priceline could stop instant booking and use TRIP solely as a metasearch site and integrate its reviews on booking.com. For a rough estimate of what it would cost Priceline to buy TRIP, we can use assume a 20-25x EV/EBITDA range based on its acquisitions of Kayak and OpenTable. Using 2015 adjusted EBITDA we can see a take-out premium range from 16% to 45% as a reasonable expectation. Much higher than this, it is highly unlikely that Priceline would be a buyer and much lower makes it unlikely TripAdvisor would sell.

image042How does Liberty and John Malone’s involvement impact a potential acquisition?

As of June 30, 2016, Dr. John Malone’s Liberty TripAdvisor owned 13.7% of Class A stock and 100% of Class B. Assuming full conversion, it would own 21.3% of TripAdvisor. With Class B having super-voting rates at 10 votes per share, Liberty effectively controls 56.0% voting rights. What this means is that any acquisition of TRIP would need to be approved by Liberty.

John Malone has a similar investment in Expedia through Liberty Interactive where he holds 16% of shares outstanding and 52% of the voting rights.

While TripAdvisor was spun-off from Expedia in 2011, there are still ties between the companies through Liberty’s stakes, with Greg Maffei being both the Chairman of TripAdvisor and the CEO of Liberty Interactive; he is also Chairman and CEO of Liberty TripAdvisor.While the first thought would be that TripAdvisor would not sell to Priceline, because it could negatively impact Expedia, we disagree. First, Malone’s CEOs have run each Liberty entity to maximize profits at the individual company level rather than to maximize the collective Liberty assets. Second, Priceline buying Expedia is not necessarily damaging to Expedia. Third, if Expedia actually was very concerned about this, it could buy TRIP and put it back together with Expedia.

The largest impact of Malone’s involvement is more likely the premium paid being larger than normal.

Dr. John Malone is incredibly well-respected and any asset he supports selling will need to be a fair transaction at worst, and more likely, be a premium valuation well above its stand-alone value where the synergies make it attractive to both sides.

Antitrust concerns appear to be manageable in the U.S., but Europe is a concern.

With Expedia already being allowed to purchase Orbitz and Travelocity, we believe the DoJ is unlikely to block a Priceline/TripAdvisor deal. The pure OTA/metasearch consolidation would be high, but the competitive landscape would need to consider direct bookings from the hotels and tech companies like Google. In Europe, antitrust concerns have been running rampant with Google and other U.S. tech companies being targeted. With booking.com dominating Europe already, the EU could see any increased power and less competition to be worrisome and step in to block a deal.

What about Expedia?

We believe that the main reason Expedia will not buy TripAdvisor is that Expedia is already in the process of integrating multiple acquisitions. Additionally, Expedia is much smaller than Priceline with a $16B market cap, so the acquisition would likely require a large debt issuance to fund the deal. With Expedia, already deriving 44% of its revenue from the U.S. with goals to reach ~2/3rd, buying TRIP moves it in the opposite direction. It could consider more of a merger of equals type deal giving the large overlapping Liberty control, but this seems very unlikely as well, especially given the initial struggles on monetizing Instant Booking.

Could a tech company swoop in?

Of the big tech players, the most likely buyer would be Google. However, they already have their own direct booking platform and are fighting antitrust concerns on search. Google also derives significant ad revenue from the OTAs. Additionally, Google could deploy that same $10B+ into its growing cloud business as a better use of capital.

Other companies like Facebook are moving more into travel, but Facebook would be better served focusing on advertising revenue and growing its dynamic ad platform, which seems to be a better investment than taking a $10B bet on TripAdvisor.

Amazon has already attempted a hotel bookings site, but shut down Amazon Destinations last October less than one year after launching. We do not expect it to move back into the space via an expensive acquisition.

What about Ctrip?

Ctrip is attempting to push more outbound travel and adding TripAdvisor would be a way to enter the U.S. with a proven brand. The first issue is that, strategically, this simply may not work and be too risky. The second is that the justice department may not look kindly on a Chinese company taking control given censorship issues. At the same time, the Chinese government may not want Ctrip to own a U.S. site where the most known feature is a vast pool of uncensored reviews by the public.

What is the most likely scenario?

If any company were to buy TripAdvisor, we believe that Priceline would be the most likely to do so. However, it is doubtful that Priceline is willing to pay enough of a premium to entice the Liberty-controlled entity to sell its shares. For an acquisition to happen, one of two things would likely need to occur. The first would be that TripAdvisor fails in its instant booking efforts and the stock is much lower than the current valuation (trading below Priceline’s multiple). In this situation, Priceline could pay a nice premium to where TRIP is trading without a lofty valuation and TripAdvisor shareholders could accept a profitable exit. We are not predicting this happens, but is a scenario worth considering. The other situation is the polar opposite where TripAdvisor succeeds and grows into its valuation where earnings accelerate and make the company cheap on valuation metrics. Here, Priceline could consider paying a higher price for something that is working, but at that point, TRIP shareholders may not want to sell. The most likely case in the next few years is that TripAdvisor makes progress on its instant booking, but nothing really happens to push Priceline to make a compelling enough bid or TripAdvisor to abandon its strategy.

Egencia – Expedia’s Disruptive Corporate Travel Business

Egencia is Expedia’s corporate travel business (now includes Orbitz for Business as well), operating in 65 countries, accounting for roughly 6% of Expedia’s revenue in the first half of 2016. Its strategy is reminiscent to how Expedia disrupted the leisure travel industry. Egencia offers a dynamic technology platform that seeks to move corporate travel from old fashioned and expensive booking methods to a digital one that is more efficient and cost effective for clients while still offering 24/7 support and access to travel experts.

The booking platform leverages Expedia’s technology and has access to 190,000 hotels and 400 airline carriers. More than 14,000 of those properties offer exclusive rates through Egencia to business travelers. It also offers car rentals and rail bookings. Clients can book their trips themselves or use Egencia’s consultants to help them. The platform also has powerful analytics to help monitor and optimize travel spend. Egencia also offers companies consulting services to improve their company travel programs.

Corporate travel is a mature growth industry in the U.S.

U.S. corporate travel spend grew approximately 3% in 2015 to ~$290B and is on pace for 1% growth this year; the global market is estimated at roughly $1.2T in spend with 5% growth with more than 2/3rd of spend from the US, Western Europe, and China.

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Source: GBTA Foundation

Egencia’s US growth has primarily been, and will likely continue to be, driven by market share gains from competitors and to a larger extent, companies moving from unmanaged travel to management companies in the U.S.

The dominant corporate travel managers are Carlson Wagonlit Travel, BCD Travel, American Express Global Business Travel, and HRG North America. According to Business Travel News’ 2015 Corporate Travel 100, of the top 100 companies in the US based on amount spent on business travel in 2014, American Express had 37 accounts, BCD 23, Carlson 20, HRG 6, and Egencia 1 (Expedia has separately referenced Procter & Gamble, which is number 43 on the list). Given Egencia’s disruptive nature, it is not surprising to see the legacy leaders dominating that list while Egencia has a core market of small and mid-sized companies. That being said, it does have household names like Starbucks and L’Oreal as clients. Other customers include Capgemini, Newell Rubbermaid, Lexmark, Manpower Group, Scotiabank, NASDAQ OMX, and Lacoste. As the platform continues to become more robust, it should be able to add larger clients to accompany the growth of its small and mid-size company customer list. The brand recognition and trust in the parent company should help as well. However, share from the largest corporate travel managers is not the most likely scenario as the larger clients tend to stick with existing management companies; client retention for the four market leaders has remained at over 90%.

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Priceline is unlikely to become a full-service corporate travel manager.

Expedia’s main OTA competitor, Priceline, entered into the corporate travel market in 2015 via its Booking.com for Business platform. So far, it has not attempted to be a full service corporate travel manager like Egencia or the large legacy firms. Instead, it has created what amounts to a modified version of the Booking.com platform as it found that 20% of bookings were done for corporate travel on its traditional Booking.com site. Priceline is targeting small businesses without a managed travel service and is solely focusing on lodging with no flight offerings. A user can easily sign up for free and automatically start to receive what Priceline calls “genius” rates, which leads to a 10% discount on various hotels. The search engine adds basic reporting functions to track travel spend to go along with discounted rates. Additionally, Priceline has partnered with SAP’s Concur, which offers cloud services to manage travel and expenses, to offer Booking.com’s accommodations. Concur also partners with AccorHotels, Airbnb, Air Canada, Avis, Enterprise, Etihad Airways, HotelTonight, InterContinental Hotels Group (IHG), Lufthansa, National Car Rental, Marriott (International), Starwood Hotels & Resorts, Sixt, United Airlines and Wally Park. Recently, they acquired Hipmunk as well. As it currently stands, it seems like Priceline is simply improving the user experience for current business customers that book on the leisure site. While this may not seem like a huge deal, the discounted “genius” rates and spending tracking should help keep its existing business customers booking on the site rather than shopping on OTAs and then booking directly at a hotel. Given the high-touch model and the costs to become a more full-service corporate travel manager, our best guess is that Priceline stays on its current path and adds functionality to its website. If the industry outlook accelerates, it is quite possible that Priceline eventually acquires, rather than builds, a full service offering.

Air Travel

Prior to acquiring Orbitz, Expedia generated 8% of its revenue from airlines in each 2013, 2014, and 2015. Expedia does not give bookings data solely on air, but Orbitz generated 62% of bookings and 25% of revenue from airlines in its last quarter before being acquired. This suggests that the implied take rate from air traffic is only in the in the low to mid-single digits.

The Airline business is more of a tool to cross-sell hotels than it is a true, direct driver of growth.

At its investor day, management highlighted that Expedia gets more revenue from attach than it does from the airline booking itself. The ability to attach its hotel inventory and drive bookings there is why such a low fee business is still important for Expedia. It partners with 475 airlines to provide air travel inventory.

Expedia will continue to invest in technology to differentiate its airline booking process.

Some of the goals laid out by Expedia are:

Increase search speed.

Introduce new technologies like split ticketing (check for round trip while simultaneously looking at one-way fares from different airlines).

Providing more information including things like whether a flight has Wi-Fi, ability to upgrade fare classes, baggage fee rates and policies, and a flight score that reflects the duration of the flight the type of aircraft, and the quality of amenities the flight offers.

Business-to-Business

Expedia Affiliate Network (EAN)

EAN lets third parties use Expedia’s technology to power their sites. The typical client would be an airline, retailer, or much smaller OTA. An airline could offer travel packages with hotel lodging on its own sites to its customers under a “white label” agreement where the branding is solely the affiliates. The airline gets to utilize Expedia’s inventory and scale and collect part of the commission for bookings. Expedia gets another source of booking traffic and the bulk of the commission. The same principal would apply for a retailer or credit card company offering rewards for travel. Smaller OTAs would be able to scale up quickly, but lose much of the commission on the booking that they would get if they did it themselves. Expedia’s website shows EAN has 7,500 partners in 33 countries.

B-to-B has been a small part of the business for Expedia, but the latest deal with Marriott (discussed earlier in the report) suggests that powering hotels’ platforms could be the next stage of the business for this unit. Under that type of arrangement, we suspect there is a fee-for-technology arrangement rather than a commission sharing one.

Expedia Media Solutions

Media Solutions is a digital media consultancy that has worked with over 1,000 brands in the travel, finance, auto, entertainment, retail, and telecommunications segments. The group offers display advertising, sponsored listings, audience extension (engaged with consumers in the decision phase after they leave Expedia’s sites), email marketing, and social media services. While there are non-travel campaigns targeting affluent customers on Expedia’s sites, the specialty is unsurprisingly in travel. The direct impact to Expedia as a whole is minimal. Revenue from Media Solutions is included in advertising revenue with Trivago. Stripping out the Trivago, this unit generates less than 1% of total revenue. However, the indirect impact is likely more significant with increased bookings for clients likely to be booked through the OTA platform. Clients get more brand awareness and bookings while Expedia gets some direct revenue and increased bookings commissions.

Endnotes and Further Reading