Priceline.com (NASDAQ:PCLN) is one of my favorite long-term investments because the company has an exceptionally profitable business model and is a market leader in the online travel booking industry. Its stock was among the best performers over the past 12 years. For example, when Jeffrey H. Boyd was the CEO, the stock surged about 12,655% between November 2002 and December 2013, making the stock a 127 bagger. This means that a $10,000 investment would have become $1.27 million had you invested in the stock during the same period.
Source: Yahoo Finance
However, it is always easier to look at the rear view mirror (the history) of an investment when we are investing in stocks. The more difficult and most important task is to predict the stock's future prospects and growth potential, so we may invest in the stock 1) if it still has good long-term prospects and 2) if it is trading at a sensible price.
I decided to write an article about Priceline because I believe the company still has great long-term prospects and because the stock is very likely undervalued relative to its fair intrinsic value (business value). I will provide you with my estimate of the company's intrinsic value in this article.
About Priceline and its Business Model
Priceline (the group) is a leading online travel agency that provides accommodation reservations (e.g. hotels, motels, bed and breakfasts, hostels, apartments and other vacation retails) through its Booking.com, Priceline.com and Agoda.com websites. In the U.S., the company offers online booking services for rental cars, airline tickets, vacation packages and cruises through the Priceline.com brand. In the international market, the company operates mainly through the Booking.com, Agoda.com and Rentalcars.com brands. Moreover, the company owns Kayak.com, a meta-search traveling service that allows users to search and compare travel itineraries from hundreds of travel websites.
Priceline earns its revenues from a combination of travel commissions (its largest revenue source), reservation booking fees, customer processing fees, transaction and advertising revenues. Its international segment (primarily Booking.com) contributes the most gross bookings and operating income for the company. Its international segment contributed 85% of total gross bookings and 94% of operating income for the company in fiscal 2013 (source: Q1 2014 10-Q Report).
Priceline's business model is exceptionally profitable. For example, its gross margin was 85.7% and its net profit margin was 20.2% for Q1 2014. The company generates a lot of free cash flows that are often higher than its reported net income because it operates online booking websites that have minimal capital expenditures compared with traditional retail travel agencies.
Priceline's Long-Term Prospects, Competition and Growth
I believe that Priceline has good long-term prospects for these reasons:
- It owns Booking.com, the largest and leading international hotel booking service in the world that has the most extensive hotel and accommodation network (over 488,086 properties in 203 countries at the time of writing, according to its website).
- The company's gross bookings are still growing at a double digit rate.
- An increasing number of travelers are shifting from offline travel agencies to book accommodations online.
- The online travel industry is still growing and has not reached a maturity stage yet.
Booking.com is Priceline's most important brand because it provides the most revenue growth and earnings for the company and because it operates mainly in the international market, which is a much larger market than the U.S. market.
In contrast to its biggest competitor, Expedia (NASDAQ:EXPE), Priceline's Booking.com is the market leader in the international market while Expedia is the market leader in the U.S. Both companies compete with each other to acquire more traffic to their websites and customer gross bookings, as well as expand hotel and accommodation networks. However, Priceline is far ahead of Expedia in the international market. For example, Priceline's Booking.com has over 488,086 properties in 203 countries compared with Expedia's Hotels.com, which has 260,000 properties at the time of writing (sources: Booking.com and Expedia Inc.). Customers are generally attracted to online travel websites that have the best deals with the most extensive properties and travel related services for bookings.
The most important factor that drives Priceline's long-term revenue growth is gross bookings (the total dollar value of all travel services purchased by customers).
Even though the company's revenue has grown substantially over the past decade, its total gross bookings - especially in the international market - are still growing at a double digit rate that is often in the range of 30% to 40% each year (see image below). I believe the primary reason is that more customers are booking their hotels and travel services online through travel websites such as Booking.com, instead of through traditional travel agencies and other travel service providers. As a result, Priceline should continue capturing more market share and gross bookings from the traditional travel service providers, as the company expands its accommodation network in the international markets, such as Europe, Asia Pacific and Latin America.
Competition and Risks
Expedia is Priceline's biggest competitor as both companies operate a similar business model and compete in both the domestic and international markets. However, I believe that Priceline should still be the market leader in hotel booking in the long term because it owns Booking.com, which is far ahead of Expedia in the international market. Other competitors include Google's (NASDAQ:GOOG) Hotel Finder service, TripAdvisor (NASDAQ:TRIP), Travelocity, Ctrip (NASDAQ:CTRP) of China, traditional travel agencies and travel service providers (e.g. large hotel chains).
Between fiscal 2004 and 2013, the company's free cash flows had grown from $35 million to $2.2 billion, which is equivalent to a compound annual growth rate (CAGR) of 58.6% each year (see image below). Most of the earnings growth was contributed by Booking.com.
Source: Intelligent Stocks
Priceline's revenue, earnings per share and free cash flow growth rates should be much lower over the next decade because the company is already a large cap and has grown to a substantial size. I believe that a more reasonable free cash flow CAGR should be between 15% and 20% over the next decade, depending on the company's long-term prospects.
As stated earlier, more consumers - especially in the international market - are shifting their travel bookings from traditional travel agencies to online travel agencies such as Booking.com. Moreover, the online travel booking market is still in the growth stage (as shown by Priceline's double digit growth rates in its gross bookings in recent quarters). Hence, I believe that Priceline still has a lot of growth potential over the next decade.
Intrinsic Value Estimates
I have estimated Priceline's intrinsic value based on three scenarios with different free cash flow (FCF) growth rates over the next decade (see image below). The discount rate is assumed to be around 10%:
- An optimistic valuation with a FCF CAGR of 20%.
- A fair valuation with a FCF CAGR of 18%.
- A pessimistic valuation with a FCF CAGR of 15%.
Source: Intelligent Stocks
Based on my estimates, Priceline's current fair intrinsic value should be around $78 billion in market cap or $1,468 per share, assuming that its free cash flow will grow at a CAGR of 18% over the next decade. This means the stock is undervalued by around 20% at the time of writing. The stock is trading at $1,189.30 per share as of June 13. (Note that the company's free cash flows grew at a CAGR of 58.6% over the past 10 years.)
The Bottom Line
Priceline is still a great company for long-term investing because it has a very profitable business model that generates a lot of free cash flows and it owns Booking.com, which has a lot of growth potential in the international market. While the stock has increased more than 40-fold (4,000%) over the past 10 years, it is still undervalued relative to its intrinsic value. Based on my estimates, the company's current fair intrinsic value should be around $78 billion in market cap or $1,468 per share.
Additional Commentary on the OpenTable Acquisition
As I completed writing this article, Priceline announced that it will acquire OpenTable Inc. (NASDAQ:OPEN) for $103 per share valued at $2.6 billion (source: Press Release). OpenTable is the world's leading provider of online restaurant reservations with more than 15 million diners per month across more than 31,000 restaurants.
Priceline's management had done an excellent job acquiring different brands in the past. The most notable one was Booking.com, which proved to be exceptionally profitable. I believe that the acquisition of OpenTable will complement Priceline's existing brand portfolio and will help Priceline expand further in the restaurant booking business. Priceline can also help OpenTable accelerate its global expansion.
Sources: Priceline's 2013 10-K Report, Q1 2014 10-Q, Q1 2014 Conference Call, Expedia, Yahoo Finance, Morningstar, OpenTable, SA Transcripts and Intelligent Stocks.
Disclosure: The author is long PCLN, GOOG, GOOGL. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.