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Summary

  • Susquehanna turns positive on Expedia as it believes consensus estimates are too pessimistic.
  • The company has demonstrated inferior revenue growth and margins.
  • If it can improve these metrics versus competition, the relative valuation gap and opportunity is large.
  • Yet I am not very convinced Expedia has the ability to do this, losing relative market share in a scalable business.

Investors in Expedia (NASDAQ:EXPE) react very enthusiastic to an upgrade form analysts at Susquehanna which believe consensus estimates for the online travel company are too pessimistic.

If the company can close the huge margin gap with its biggest competitor, more upside might be on the horizon indeed as Susquehanna is predicting. That being said, inferior historical growth in a scalable business makes me very cautious to back this prediction.

Susquehanna Turns Positive

Analyst Brian Nowak at Susquehanna Financial group upgraded Expedia from a neutral stance towards positive. The price target has been raised by $11 to $90 as consensus estimates for 2014 and 2015 are too conservative according to Nowak.

According to internal and even conservative assumptions, the earnings per share consensus is 3 and 4% too low for 2014 and 2015, respectively. The company behind Travelocity and Trivago has shown a volatile performance in the first half of this year, but it's set to outperform in the coming period.

Better conversion at Expedia resulting from the tie-up with Travelocity and increased traffic and ARPU for Trivago are driving results as well as a solid performance of Hotels.com.

Cautious Start To 2014

Back in May, Expedia released its first quarter results. The company has access to roughly $2.2 billion in cash and equivalents, while holding another $1.2 billion in debt, resulting in a solid net cash position.

The company posted a 19% jump in first quarter revenues to $1.20 billion as the underlying business grew at a much quicker pace. Total hotel nights being booked were up by 24%, which in its turn drove gross bookings growth of 29%. Booking came in at $12.6 billion, but revenues as a percentage of bookings were down 84 basis points to 9.5% of bookings.

The company saw real difficulties turning a profit on its activities in the first quarter, posting a GAAP loss of $14.3 million. Adjusted, non-GAAP earnings were down 39% to $21.5 million. GAAP losses were driven by a $18.5 million amortization charge of intangible assets.

Factoring in Tuesday's jump to $78 per share, Expedia's equity is valued at $10.1 billion which values operating assets at roughly $9.1 billion. Based on trailing revenues of $5.0 billion, operating assets are valued at roughly 1.8 times annual revenues. Trailing net earnings of $323 million implies a 28 times GAAP earnings multiple.

Slower Growth, Offset By Higher Payouts

Over the period 2004-2013, Expedia has grown its annual revenues at a compounded annual growth rate of 11%. While this has been impressive, note that the industry in which it operates has seen superior growth. Competitor Priceline.com (NASDAQ:PCLN) has grown its revenues by nearly 25% per annum over this period, driven by the hugely successful acquisition of booking.com.

As growth for Expedia is slowing down it has resorted to increased loyalty incentives and discounting which is hurting its revenues/bookings ratio in a serious way. Given the strong balance sheet and slowing growth, Expedia is returning cash to investors.

The $0.15 quarterly dividend provides investors with a 0.8% dividend yield while the company repurchased 1.7 million shares in the first quarter, at a rate of nearly 6% per annum.

Rapid Changes Dominate The Industry

Expedia's shares have ripped higher in recent years on the back of the industry growth and general market enthusiasm. As a result shares have quadrupled from $20 in 2011 to current levels at $80.

Expedia has grown in recent years, both organically as well as through the acquisition of Trivago which closed last year, giving the company a stronger foothold in Europe. This came after competitor Priceline.com bought Kayak after it has just seen its public offering.

Just last week, Priceline.com announced its intentions to acquire OpenTable (NASDAQ:OPEN) in a $2.6 billion deal, giving it a strong footing in the restaurant booking business.

Takeaway For Investors

While Expedia's growth is impressive, the company is losing business to Priceline.com and other businesses in a rapid growing industry. As scale is crucial for the business, this is obviously a very damaging development. The fact that Expedia runs so many different websites is not helpful either.

As a matter of fact, Priceline.com's trailing revenues of $7.1 billion are just little over 40% higher than Expedia. Yet it is growing much quicker and showing superior margins after posting trailing earnings of $2.0 billion versus earnings of $323 million for Expedia.

This gap is only widening at the moment, but has been well-reflected in the share price. Priceline.com's market capitalization, including a comfortable net cash position, values the company at $62 billion. This values the company at 8.7 times revenues, compared to just a 2 times multiple for Expedia on that metric.

On the back of this logic, it is understandable why Expedia looks relatively attractive. Yet on earnings metrics Priceline.com looks more attractive, while showing better growth rates as well. As such the crucial factor is the question whether Expedia can really improve its margins, after reporting after tax profit margins of 10-15% historically. If it can do this, earnings of $750 million-$1 billion are attainable which could push shares easily towards $100 per share.

I must say that I am not convinced that Expedia can pull this off, as the company continues to lag its main rivals. Intense competition and scattered offerings are the main reasons. I remain cautious and stay on the sidelines.

Source: Expedia - I Have My Doubts About Susquehanna's Bullish Call