Investors in Priceline.com (NASDAQ:PCLN) are not too enthusiastic about the company's deal to acquire OpenTable, which gives the company a strong foothold in the market for restaurant reservations.
I think the deal makes strategic sense, yet investors are cautious despite the fact that Priceline.com has a great acquisition track record. The valuation at 25 times earnings is a bit demanding, yet Priceline.com shows solid growth. Still I will hold off making an investment on the back of worries about long-term margins.
The Deal Highlights
CEO Darren Huston rationalizes the acquisition as OpenTable provides Priceline.com with an extension into the restaurant marketing services. He furthermore praises the high-valued booking experience which OpenTable could offer to Priceline.com's global customer base.
The boards of directors of both companies have already approved the deal in an unanimous fashion. The tender offer is expected to close in the third quarter of this year if all goes per plan.
Strategic Implications Of The Deal
OpenTable makes reservations for over 15 million diners in over 31,000 restaurants a month, making it the leader in online restaurant reservations. Since introduction in 2008 the company has seated over 125 million diners through its mobile solutions.
The company charges variable fees on diners on top of fixed monthly fees which restaurants are required to pay to use the software.
In comparison, every night some 1 million guests stay in hotels or accommodations booked through the websites of Priceline.com in over 480,000 properties across the globe. Priceline.com aims to boost the offerings of OpenTable across the globe, as OpenTable still realizes the vast majority of its revenues within the US. Priceline.com is very much internationally focused, thanks to the success of Booking.com.
At $103 per share, Priceline.com pegs the valuation of OpenTable at $2.6 billion which implies the company paid a premium of roughly $800 million to acquire OpenTable.
As a matter of fact, shares of Priceline.com took a beating on the news. Shares of Priceline.com fell by nearly $37 on Friday which reduced its own valuation by $1.9 billion. This is more than twice the dollar premium paid for OpenTable and is actually approaching the entire deal value of the acquisition.
The $2.6 billion price tag values the company at nearly 14 times revenues of $190.0 million reported for the calendar year of 2013. Shares trade at 78 times earnings of $33.4 million for that year.
Financing of the deal should not provide any difficulties given the strong financial position of Priceline.com which holds $6.7 billion in cash and equivalents. Total (convertible) debt is $1.9 billion which results in a net debt position of $4.8 billion.
Priceline.com Has An Amazing Acquisition Track Record
The negative reaction of investors in Priceline.com towards the deal is surprising to say the least. Of course the company is paying a steep premium of 46% over Thursday's closing price, but in real dollar terms the premium is just a little more than 1% of its market capitalization. The total deal value amounts to roughly 4% of its own valuation.
Takeaway For Investors
Priceline.com appears to be facing no real competition to acquire OpenTable despite the fact that shares have been trading roughly one and a half dollar above the offer value on Friday. The 1.5% premium at which shares are trading suggests investors are cautious to bet upon more bidders emerging for OpenTable.
Back in May of this year, I last checked out the prospects for Priceline.com after the company released its first quarter results. At the time, I applauded the company for the incredible growth in recent years, but I was skeptic about the long-term sustainability of the business model. The main reason was the fact that Priceline.com takes an average cut of thirteen cents on every dollar of value of the hotels night rooms being booked through its websites.
I still share that concern, however, I do very much applaud the combination which Priceline.com is making offering restaurant bookings next to of course hotel rooms, rental cars and airline tickets. Travelers of course often go dining when making their travel accommodation, often not being familiar with the restaurant scene at their destination. On the back of the previous projections for annual revenues of $8.4 billion, the deal could push revenues to $8.6 billion for the pro-forma combination. Earnings are seen around $2.4 billion for this year.
At 1,190 per share equity is valued at $62 billion, which values operating assets around $60 billion following the lower cash balances being held by Priceline.com after the OpenTable acquisition. This values the operations at roughly 7 times revenues and 25 times earnings.
I do very much applaud the strategic nature and direction of the move, yet the valuation of shares remains a bit steep. A 25 multiple might very much be warranted given the growth profile and historical track record of the firm, yet I do continue to worry about potential margin impacts on the business.
Competitor Expedia (NASDAQ:EXPE) takes an average 10% cut on their bookings versus 13% for Priceline.com. If Priceline.com would see margins compress to those levels, revenues would take a 27% beating.
This potential margin pressure is a real concern of me, although I believe the acquisition of Priceline.com to facilitate hotel, flight tickets and restaurants is strategically solid. However, the premium valuation at 25 times earnings combined with potential pressure on the long term business model are concerns of me, prompting me to stay on the sidelines.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.