Q1 2009 Earnings Call Transcript

 |  About: Priceline Group Inc. (PCLN)
by: SA Transcripts


Welcome to Priceline's first quarter 2009 conference call. Priceline would like to remind everyone that this call may contain forward-looking statements which are made pursuant to Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties, and assumptions that are difficult to predict. Therefore, actual results may differ materially from those expressed, implied, or forecast in any such forward-looking statements.

Expressions of future goals and similar expressions reflecting something other than historical fact are intended to identify forward-looking statements. For a list of factors that could cause Priceline's actual results to differ materially from those described in the forward-looking statements please refer to the Safe Harbor statement at the end of Priceline's earnings press release, as well as Priceline's most recent filings with the Securities and Exchange Commission. Unless required by law, Priceline undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events, or otherwise.

A copy of Priceline's earnings press release, together with the company’s financial and statistical supplement, is available in the investor relations section of Priceline's website located at

As a reminder, this call is being recorded.

And now, I would like to turn the call over to your host, Priceline's speakers for this afternoon or today, Jeff Boyd and Dan Finnegan. Go ahead, gentlemen.

Jeffery H. Boyd

Thank you very much. It’s Jeff Boyd and welcome to Priceline's first quarter conference call. I am here with Priceline's Vice Chairman, Bob Mylod, and CFO Dan Finnegan. I will make some opening remarks, Dan will give a detailed financial review, and then I will sum up. After the prepared portion, we will take questions.

Priceline reported consolidated gross bookings for the first quarter of approximately $1.9 billion, up 10.5% year over year. Pro forma net income was $51.3 million, or $1.09 per share, versus $0.76 per share the prior year. First quarter results surpassed First Call consensus estimates of $0.91 per share and our guidance for the quarter.

Worldwide hotel room night sales were $12.8 million for the quarter, up 36% year over year. While the global economic environment remains challenging to say the least, we were pleased with the growth in unit sales and improved gross margins and operating margins we achieved, which allowed us to overcome the impact of significantly negative year-over-year pricing and currency trends.

Our international business performed well, with 24% gross bookings growth on a local currency basis, despite a substantial decline in hotel ADRs. International gross bookings benefited from geographic expansion, growth in hotel inventory, and growth in new markets. continued to build its supply platform worldwide with a hotel count that now exceeds 66,000 hotels in over 70 countries. Importantly, we continue to invest in the future, building in new markets outside of Europe, notwithstanding weakness in the global economy. We also continued to invest in distribution, increasing spend in our online channels and were able to drive demand growth with reasonable efficiency despite lower unit prices. Agoda is benefiting from substantial improvements to its direct hotel supply, website functionality, and infrastructure, which is helping drive impressive growth in the face of lower unit pricing and demand weakness tied to economic weakness and continued civil strife in Thailand, Agoda’s largest destination market.

Priceline's domestic gross bookings grew 18% in the first quarter. With strong growth in unit sales tempered by a significant year-over-year decrease in airline ticket and hotel pricing. Domestic merchant gross bookings, which include [opaque] services and retail merchant hotels, showed strong growth, which contributed to increased gross margins in the quarter. We continued to see attractive domestic unit growth rates which we believe were supported by consumer demand for travel deals in a weak economic setting, attractive supply from airlines and hotels using our services to supplement demand and protect yields, and effective marketing of our low-priced positioning in both opaque and retail markets.

We saw improved domestic operating margins in the quarter due to marketing efficiencies, despite an increase in spend, and good cost controls. Net income margin benefited from favorable below-the-line effects of our for-ex hedging program and lower cash tax rates due to better U.S. performance and EPS benefited from a lower year-over-year share count.

As many of you know, the online travel market has seen intense promotional activity this year. Priceline was the market leader in eliminating booking fees on retail airline tickets in 2007 and shopping retail hotel booking fees in 2008. Our competition has cut fees on a promotional basis this spring and all are matching, resulting in a material hit to our competitor’s profitability. We have been living with this fee structure for over a year and will not experience the same hit to our profitability since our domestic P&L is not substantially dependent on fee income from retail services.

If the fee reductions are made permanent by our competition, we expect a reduction over time in the domestic market share gains we have experienced, particularly in retail air, which has an impact on domestic gross bookings growth but where our earnings per transaction are quite modest.

Moreover, the savings available in our opaque services dramatically exceed the savings through reductions of processing fees. We do not expect these fee cuts, whether permanent or not, to have a material impact on our consolidated earnings and in fact the range of guidance that Dan is about to give for the second quarter will be the same regardless of whether or not the no-fee promotions are extended.

Our results are driven more by our international hotel and domestic opaque businesses, which we think continue to benefit from distinctive positioning in the market. Our U.S. brand stands for savings more generally and we believe can continue to benefit from the equity we have built in low-price positioning over the last several years.

Travel businesses are also dealing with the implications of an outbreak of swine flu in Mexico and the spread of the disease to other countries, including the United States. The short and long-term impact of this outbreak is not clear at this time. As with the SARS outbreak, we have seen a dramatic reduction in travel to destination subject to travel advisories, in this case, Mexico, but it remains to be seen whether there will be a more extensive and protracted reduction in travel or quarantines or other restrictions on travel mandated by public health officials.

In summary, despite the numerous macro challenges, the business performed well in the first quarter and I thank my colleagues around the world for their hard work and dedication. I will now turn the call over to Dan for the detailed financial review.

Daniel J. Finnegan

Thanks, Jeff. I will discuss some of the highlights and operating results and cash flows for the quarter and then provide guidance for second quarter 2009. The headline for the quarter is that we continued to make significant market share gains and grow pro forma EBITDA and operating leverage. In an overall travel market that we believe experienced double-digit declines in hotel room occupancy and enplanements, we generated 36% growth in hotel room nights booked and a 28% increase in airline tickets sold.

These robust unit growth rates netted to an 11% increase in gross booking dollars after applying the adverse impact of lower average prices and currency exchange rates. Average daily rates, or ADRs, for our international hotel service were down by about 11% versus Q1 2008 and were down by about 10% for our domestic hotel service. Our first quarter guidance was based on an assumption that ADRs for our international hotel service would be down by 9% to 11% and that ADRs for our domestic hotel service would be down by 7% to 9%, so ADR decreases were at the worst end of the range for international hotels and dropped further than expected in the U.S.

FX rates were slightly favorable to the $1.26 per Euro and $1.43 per Pound that prevailed when we gave guidance in February. However, when comparing our results to the prior year, FX rates continued to be a significant headwind. Specifically, the average exchange rates for the Euro and the Pound were down 13% and 27% respectively in Q1 2009 versus Q1 2008.

In general, the strong growth in unit volumes resulted in performance that exceeded the top end of our range of guidance in every metric from gross bookings to EPS. Gross profit was $208 million and grew 15% as compared to prior year. Our domestic business generated gross profit of $94 million, which represented a 21% growth rate versus prior year. Gross profit for our international operations amounted to $114 million and grew by 10%.

Operating expenses were generally in line with guidance. On a year-over-year basis, we increased operating expenses by 13%, as we continue to invest in marketing, people, and new offices to support the growth of our business. Other income came in at $100,000 versus our guidance of approximately $1.3 million. The variance is due primarily to lower-than-forecasted FX hedging gains resulting from the aforementioned weaker than forecasted dollar.

In summary, the over-performance in bookings and gross profit, together with continued strong expense management, resulted in pro forma EBITDA for Q1 of $64 million, which is well in excess of our forecast of $50 million to $55 million, and represents 33.5% growth versus prior year.

We were pleased to achieve this profit over-performance and to further increase our operating leverage while increasing total advertising and support of our brands by 13% and to an even large degree on a local currency basis. The quarter was also positive from a cash flow perspective.

During first quarter 2009, we generated approximately $74 million of cash from operations, which is a 71% increase versus prior year.

We spent about $3 million on CapEx in the quarter and repaid about $21 million principal amount of convertible debt, bringing us to an outstanding debt balance of $372 million at quarter end. This leaves us at quarter end with a cash and marketable securities balance that is about $125 million in excess of our outstanding debt balance. Additionally, we have a $175 million revolving credit facility that is undrawn and doesn’t expire until September 2012.

As we have highlighted in the past, our fully diluted share count, particularly as it relates to equivalent shares outstanding for our convertible debt, tends to vary based upon our average stock price. We include equivalent shares in our fully diluted share count for the theoretical number of shares that would be issued if our outstanding convertible notes were actually converted.

The higher our average share price is, the more shares that would be issued upon conversion. With our stock trading at lower prices over the last several months versus the first quarter of 2008, our diluted share count has fallen, thereby providing a favorable share count comparable in Q1 2009 versus prior year.

And now for second quarter guidance -- we are forecasting total second quarter gross bookings to amount to approximately $2.1 billion to $2.15 billion, with domestic gross bookings growing by approximately 5%. We expect international gross bookings expressed in U.S. dollars to come in about the same as last year and to grow on a local currency basis by approximately 15%.

We expect our bookings growth rate versus prior year to continue to be negatively impacted by significant decreases in ADRs. Our second quarter guidance is based on an assumption that ADRs for our international hotel service will be down by 9% to 11%, and that ADRs for our domestic hotel service will be down by 11% to 13% and that airline ticket prices will be down even more substantially.

We expect our international growth rate to also be adversely impacted by fluctuations in foreign currency exchange rates. Our forecast assumes that exchange rates remain at the same $1.36 per Euro and $1.52 per British Pound -- that’s Friday’s closing rates. At or near these exchange rates, FX will continue to present a significant headwind throughout the second and third quarters of 2009, as the average rates for the comparable quarters of 2008 were much stronger from a Euro and Pound perspective.

We have hedged contracts in place to substantially shield our second quarter net earnings from FX impact but these hedges do not offset the impact of translation on our gross bookings, revenue, and gross profit.

Although ADR decreases and FX rate fluctuations continued to hamper our growth expressed in U.S. dollars, our guidance assumes that room night growth will exceed gross bookings growth as we continue to experience organic growth and market share gains.

We believe that the market share gains we have realized and hope to realize in Q2 will position us to participate to a larger degree than in the past when economic conditions finally improve, whenever that may be, and fundamental travel demand and pricing begin to increase again.

We expect revenue and gross profit dollars to grow by approximately 8% to 13% on a year-over-year basis. As for Q2 operating expenses, we are targeting consolidated advertising expenses of approximately $95 million to $100 million, with approximately 90% of that amount being spent on online advertising. We expect sales and marketing expense of between $23.5 million and $24.5 million. We expect personnel costs excluding stock-based compensation to come in between $33 million and $34 million. We expect G&A expenses of approximately $14.5 million to $15.5 million. We expect information technology costs of approximately $5 million and depreciation and amortization expense excluding acquisition amortization of approximately $4 million.

We expect total below-the-line negative impact of approximately $3 million, which is comprised primarily of foreign exchange hedging expense and net interest expense.

We are targeting pro forma EBITDA of between $102 million and $112 million, and we are targeting pro forma fully diluted EPS of approximately $1.65 to $1.75 per share, which represents 10% growth year over year at the midpoint.

Our pro forma EPS forecast includes an estimated cash income tax of approximately $19.5 million to $20.5 million, comprised of international income tax expenses and alternative minimum tax in the U.S.

Our pro forma EPS guidance is based upon a pro forma fully diluted share count of approximately 48.8 million shares, which is based on Friday night’s closing stock price of $104.90 per share. This is lower than our share count of 50.5 million in Q2 2008 due to the convertible note dynamics that I just discussed.

As for expected GAAP results, we expect to report a GAAP EPS of $1.03 to $1.13 per share. The difference between our GAAP and pro forma results is driven by pro forma adjustments to exclude acquisition related amortization, stock-based compensation, and certain income tax expenses, all of which are non-cash in nature, to arrive at pro forma earnings.

In addition, we adopted FASB stat position APB 14-2 on January 1, 2009, on a retrospective basis. Therefore, our GAAP results for Q1 2009 and 2008 include non-cash interest expense for amortization of debt discounts and in 2009, include a non-cash gain related to debt conversions. We have excluded these non-cash items for pro forma purposes.

The impact of the FSP on our GAAP results is summarized in our press release and in our 10-Q. Lastly, as of January 1, 2009, we ceased making a pro forma adjustment to exclude payroll taxes related to stock-based compensation due to the relative insignificance of the expense to our earnings. Our guidance assumes that macroeconomic conditions in general and conditions in the consumer travel market in particular remain relatively unchanged and that the impact of the swine flu outbreak on travel does not worsen. Given the current macroeconomic conditions, we are not providing earnings guidance beyond the second quarter and emphasize that actual performance during the second quarter against our guidance is subject to greater variability than in the past.

I will now turn the call back over to Jeff for some closing comments.

Jeffery H. Boyd

Thanks, Dan. Businesses continue to cope with a global financial crisis and recessionary conditions more severe than any previously experienced by the current generation of government and business leadership. While there is no doubt that the downturn slowed’s growth, I believe our performance in the face of these conditions also underscores the strength of our business and brands, the value of the services we provide to suppliers and consumers, and the potential of our businesses to prosper when economic conditions improve.

We believe positive factors impacting our business have, to a degree, helped to overcome the negative impact of the economic downturn on the travel business. For example, our international business has benefited from substantial increases in hotel supply and geographic reach and from growing Internet usage and commerce in developing markets beyond the relatively mature U.S. and Western European markets.

Our worldwide hotel business has also benefited from substantial investments in marketing and brand-building, while many of our competitors are cutting costs and reducing marketing spend.

We also believe our brands resonate well with consumers seeking value in tough economic times and that we benefit from the scale we have achieved in global hotel sales. These forces have helped deliver top-line and earnings growth in a daunting environment and we believe they will continue to propel the business when business conditions improve and as we anniversary later this year the deterioration in demand, unit pricing, and currency translation we experienced late last year.

We will now take your questions.

Question-and-Answer Session


(Operator Instructions) Our first question comes from Vance Edelson from Morgan Stanley. Your line is open.

Vance Edelson - Morgan Stanley

Hi, thanks a lot. One question -- with your competitors acting more aggressive, is there anything that you need to do in reaction? Would you say you sound fairly confident that the business plan is solid enough that it is going to do just fine in the face of more aggressive tactics on the part of your competitor? So any steps you are taking in response? Thanks.

Jeffery H. Boyd

I think my comment there would be to say that our business has always been heavily focused on promotions, especially as you get into the spring and summer peak travel periods, so even though processing fee reductions is the promotion of the day, there are always a lot of things going on and you’ve seen us promote our opaque services with coupons. You’ve seen us promote price protection on airline tickets and vacation packages for the spring period, so we will continue to respond with promotional activity but I think the most important point for us is that things like a free hotel room night every 10 days or cutting the processing fee still very much pale in comparison to the savings of 40% or 50% that you can achieve booking a name-your-own-price hotel room on and we have been very aggressive in marketing that advantage and successfully so based on the numbers we reported in the first quarter.

Vance Edelson - Morgan Stanley

Okay, so you don’t have to get anymore aggressive with the marketing expense to fend off the competition?

Jeffery H. Boyd

I mean, look, our marketing expense is up fairly significantly in the first quarter while the two public companies that report have substantially reduced their marketing spend, so I don’t see a need for us to be anymore comparatively aggressive than we are right now.

Vance Edelson - Morgan Stanley

Okay, that’s great. Thanks a lot.


Our next question comes from Jennifer Watson from Goldman Sachs. Your line is open.

Jennifer Watson - Goldman Sachs

Great. Thank you. Obviously the international bookings growth was extremely strong when you exclude the FX impact compared, particularly compared to Q4. It really slowed down very modestly. Can you talk about what’s driving the bigger deceleration in 2Q versus 1Q and does it have to do with the fact that I think some of your competitors stated that Europe really experienced the brunt of their marketing cut-backs in Q1.

Jeffery H. Boyd

I think the principal drivers of the decelerating growth rate is still ADRs and FX year over year. We have seen pretty good transaction and room night growth momentum in the business and if you look at the room night growth that we’ve reported quarter over quarter sequentially, it’s pretty good.

Robert J. Mylod Jr.

We grew hotel room nights 38% in Q4 and 36.4% in Q1, so in fact actually our unit growth rates were very strong actually on a sequentially basis.

Jennifer Watson - Goldman Sachs

Right. I was just wondering if there were any different dynamics that you were expecting in Q2, given the expectation that international bookings would grow 15% on a constant currency basis, after growing 23.5% and about 27% in Q4, and Q1. So just -- it seems like the rate of deceleration increases a little bit, even though ADRs are still declining at around the 11% range.

Jeffery H. Boyd

I think that ADRs are at the high-end of the range we gave in the first quarter in terms of deterioration and that’s something that we are going to experience for the full quarter versus the first quarter, so that will be one point I would make.

Daniel J. Finnegan

And I would also say again, Jen, the two numbers there, ADR plus currency, are not additive. They have a multiplicative effect on each other, so again while we are not giving specific unit growth rates for hotel room nights in Europe, I guess what we are looking at is very, very modest sequential decrease in room nights sold in Q2. So really sort of the ongoing trend that you’ve been seeing of sort of law of big numbers not allowing us to grow room nights at 40%, 50%, 60% -- you know, our view is that the room night growth that we expect to see outside of the United States in Q2 is going to be very strong and quite market leading.

Jennifer Watson - Goldman Sachs

Great. Thank you.


Our next question comes from the line of Imran  Khan from JP Morgan.

Imran Khan - JP Morgan

Yes, hi, thank you for taking my questions -- quickly, take us through the international growth. Jeff, you talked about that newer markets are growing strongly. Can you help us get some sense, like how much is your growth in international markets coming from newer markets? Thank you.

Jeffery H. Boyd

I think, Imran, as far as I want to go on that is that the newer markets continue to grow at faster rates than the core Western European markets and that’s been part of our strategy for the last three or four years, is to plant the seeds and start to harvest those higher growth rates, and that strategy continues to play out for us, despite a bad economy. But I don’t want to get into regional growth rates or growth rates by country.


Our next question comes from Kevin Crissey from UBS.

Kevin Crissey - UBS

Thank you. I just wanted a question on kind of whether the booking curve has compressed -- a lot of the airlines have talked about seeing a much-compressed booking curve. I am wondering if you are seeing that and also whether airfare sales, how far out they are. They are further out than last year, at least. I wanted to see if you could comment on those two things. Thanks.

Jeffery H. Boyd

I think with respect to booking curves, the online travel agents generally have a lot more last minute business than the airlines see directly in their own res system, so we have a very significant proportion of our business that’s being booked in the last couple of weeks and that’s true on the hotel side and in Europe as well. I don’t have a comment to make as to whether those booking curves are compressed or not.

In terms of fare sales, we have seen them. Our airline ticket pricing is down very significantly and I think the airlines have basically decided to try to maintain their load factors throughout the summer and they will do what they need to do from a pricing perspective to do that, which is why we continue to expect low prices based on year-over-year comps on the airline ticket side.


Our next question comes from the line of Mark Mahaney from Citigroup.

Mark Mahaney - Citigroup

Two questions, please -- first, there seems to have been an acceleration in some of your competitors’ metrics post their fee cuts or fee reductions -- any thoughts you have on what sort of shifts are happening in the market place, and particularly whether there is an accelerated shift away from direct suppliers towards OTAs as a group?

And then secondly, anymore comments on Agoda? You mentioned seeing some nice growth there. Any particular markets you can call out or quantify, the bookings level for Agoda? Thank you very much.

Jeffery H. Boyd

Sure, Mark. On the share shift, if you look at the numbers that we are reporting and you are looking at our guidance and my comments said that we do expect to see a reduction in the market share gains that we have enjoyed on the airline ticket side of the business and there’s -- our competition has absolutely reported that they have seen growth in their airline ticket business since they went to no-fee.

If you look at the size of their business compared to ours, I think that the only way that they can report those kinds of numbers is if they are taking a little bit of share from the supplier sides, because our airline ticket business is just not big enough for us to provide that level of share capture to our competition. So I don’t have any firm data on supplier versus OTA share but it just seems to from the numbers that they have reported, it’s got to be coming from other channels besides other OTAs.

On the Agoda front, their business continues to do very well. Remember, it’s a small business so achieving good growth rates is a little bit easier but they are still in very attractive markets. They are benefiting from improving their hotel supply but they are also benefiting from improvements in their offering. They have a lot more dynamically bookable inventory. I mentioned in previous calls the work they did last year to improve their platform, improve the hotel supply and make sure that it was directly bookable would really help conversion and that’s playing out.

Mark Mahaney - Citigroup

Thank you, Jeff.


We have a follow-up question from Imran Khan from JP Morgan.

Imran Khan - JP Morgan

A quick question, Jeff -- I think some people could argue that your opaque business benefited by the economic downturn because of increased -- because of decreased occupancy rate. As many people are talking about the stabilization of the economy, maybe looking forward if the economy improves, do you think that your name-your-price business could have significant headwind growing the business? Thank you.

Jeffery H. Boyd

Imran, I think if you look at our historical merchant results that we’ve been reporting, you will see that that business did consistently well in good economic times and I think you have some offsetting factors, so if economic conditions improve, that means pricing will go up, which is a tailwind for the business. And it also means that consumer demand will go up which, in general, which is also a tailwind for our business.

On the other hand, maybe our supply won’t be as compelling but as you can see by the numbers we’ve been reporting on that segment for the last couple of years, on the hotel side in particular, there’s always plenty of vacancies -- occupancy factors are good at 65%. Big city hotels that cater to the business traveler during the week have room for leisure travelers on the weekends, so we think they will be -- we certainly would prefer to have better economic times. We have consistently said we would rather be in a strong demand environment than a weakened demand environment and we continue to believe that.

Imran Khan - JP Morgan

Thank you very much.


We have a question on then line from Justin Post from Banc of America.

Justin Post - Banc of America

Thank you. Two questions -- first, we did see a lot of ad spending cuts over at your competitors and your number was somewhat in line. Did you take the advantage of maybe doing some more brand building in search or offline marketing in the quarter?

And then secondly, as you look out maybe a year when the ADR pressure and currency pressure maybe normalizes, would you expect to see the relative volumes that you are getting maybe slow down a bit, or do you think you will still see the kind of volumes you are getting now, or maybe even an improvement there? Or do you think you are benefiting on the volume side from some of the economic conditions right now? Thanks.

Jeffery H. Boyd

Okay, Justin, on the first question, we have not done anything differently in terms of the way we think about our marketing spend. We haven’t spent more on branding or changed our approach. We have continued to look for the kinds of efficiencies that we have been looking for over the last couple of years. It can be a little bit more challenging because our unit economics are down and that affects your marketing efficiency but we haven’t changed our approach on that front.

On the question about the business going out a year, if your assumption is that ADRs are going up, the only thing that’s going to make that happen is a real improvement in basic hotel demand and I think we ultimately will be a significant beneficiary of that improvement, so I wouldn’t expect that sort of turn in conditions to be a negative for us. I would expect it to be a positive.


Our next question comes from Mike Olson from Piper Jaffray. Your line is open.

Michael J. Olson - Piper Jaffray

Thanks -- just a follow-up, actually, from that last one -- so you’ve talked about these better domestic operating margins due to marketing efficiencies. Is there anymore detail you can give on just what are the factors that go into the increased marketing efficiencies? And is there any reason to expect that those factors will change over the next couple of quarters?

Jeffery H. Boyd

You know, I think the basic elements are unit pricing and conversion -- and unit pricing has been weak year over year but we’ve been able to deliver good efficiencies, notwithstanding that, and conversion is something that we work to improve every day in the business and we will keep working to improve it. So I don’t -- I wouldn’t want to get into a discussion of some of the other drivers and in particular, media costs. But I think the things that we focused most on was to make sure we’ve got good unit economics compared to the rest of the marketplace and that we are able to convert the business more efficiently than our competition.


There are no further questions at this time. Please continue.

Jeffery H. Boyd

Okay. Thank you all very much for participating in the call.


Ladies and gentlemen, that does conclude today’s conference. Thank you for participating. You may now disconnect and have a great day.

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