A challenging macro environment, increasing airline consolidation, and mounting expenses are some of the factors that are restricting Travelzoo's (NASDAQ:TZOO) growth rate. While the company managed to post a small sequential gain in revenue in Q2 2012, its Q3 results were disappointing with an 8% decline in revenue and 42% year-over-year decline in net income. (Read our earnings article: "Travelzoo's Earnings Fall On Macro Headwinds And Big Investments.")
The expanded product offerings with the addition of Local Deals and Getaway has contributed to Travelzoo's growth in the last few years. However, the growth rate has slowed down recently. While Local Deals revenue registered significant year-over-year growth both in North America (15%) and Europe (28%) in Q2 2012, the segment posted a significant decline in Q3 2012, which was one of the primary reasons for the sharp decline in Travelzoo's revenue.
However, we continue to believe that Local Deals and Getaway, along with increased investment in product innovations, will be important drivers for Travelzoo's future growth. Here we discuss certain factors that contribute to our belief that Local Deals could be an important revenue driver in the coming years.
Travelzoo is primarily a global Internet media company, which provides travel and entertainment companies the ability to effectively reach out to potential customers to sell their services and products. The company ventured into the social commerce space with the launch of Local Deals in August 2010 that allows subscribers to purchase vouchers for deals from local businesses such as spas, hotels, and restaurants at attractive prices.
We estimate the Local Deals business to contribute around 15% to Travelzoo's stock price. While advertising accounts for the majority (68%) of Travelzoo's revenue, we feel the extension of Local Deals in additional markets can expand the company's user base which could translate into higher advertising revenues in the future.
Revenue Synergies With Other Businesses Could Drive Volume for Local Deals
Travelzoo attributes the lower voucher sales per deal to the highly competitive environment, seasonal factors, and known challenges with its own conversion process. However, we feel that by leveraging its existing portfolio of diverse products, the company can get an edge over rising competition in the social commerce space.
Travelzoo can package Local Deals with placements in the Travelzoo Top 20 newsletter, the company's core product. This would help Travelzoo expand its reach, thereby driving higher deal volumes.
Additionally, Travelzoo can leverage the expansion of its search business, Supersearch and Fly.com to generate more traffic for its Local Deals business. While making travel bookings customers also search for things to do upon arrival. Local Deals can play an important role here by provide interesting entertainment and dining options in different travel destinations.
Increasing Productivity of Sales Force
High investment in increasing headcount is one of the main reasons for the sharp increase in Travelzoo's operating expenses. The company kept a target to hire 50 additional sales staff this year and intends to further increase its sales force this quarter to meet the target. Travelzoo believes that the expansion in its sales force can be an important driver to fuel growth in deals.
However, Travelzoo claims that the productivity of new sales staff typically comes after a few quarters. As its new sales staff near their peak productivity over the course of the next year, it will lead to additional sales revenue for Travelzoo. Also, with an increase in global sales force it aims to increase its market coverage in the future. Travelzoo has been focusing on extending its reach to additional U.S., Canadian, and European cities while aiming to increase deal frequency and revenue per market.
Deal Quality to Drive Future Growth
Travelzoo claims that its strategy to only feature high-quality merchants and not to expand into categories too far from its core were contributing factors for the decline in its deals revenue in Q3 2012. (Europe and North America declined by 10% and 13%, respectively.) However, the company believes that in the long run, its strong focus on quality leadership will drive increasing loyalty toward its brand and position it well in the market. Travelzoo intends to continue building on its high quality deals portfolio across local, entertainment, and travel categories.
Rapid Growth in the Getaway Platform
While travel revenue declined due to lower advertising spend by some online booking engines (airlines and vacation packagers) the same was offset by continued growth in Getaway hotels offering in Q3 2012. Travelzoo registered a significant increase in hotel revenue with 45% year-over-year growth in the Getaway format.
Getaways, which was launched in 2011, is a voucher model which is gaining popularity among medium and small size hotels as it provides them with the opportunity to stimulate incremental sales. The Getaways deals usually include a night or two at a relatively high-end hotel or resort within a two-hour drive or short flight from subscribers' homes and include a fine-dining experience or resort credit plus other extras.
Currently, Travelzoo does not offer direct online bookings for a specific date. However, it is in the process of opening up a hotel booking platform and is working toward providing its users the ability to book hotels directly. Additionally, the company intends to ramp up its hotel sales force to capture the growing demand for Getaways.
We feel that the above developments will further accelerate demand for hotel bookings, which will continue to significantly contribute to Travelzoo's revenue growth. Our price estimate for Travelzoo of $23.80 is at a premium of over 30% to the current market price.
Disclosure: No positions.