Four Chinese Travel Sector Equity Plays

Includes: CTRP, LONG, UTRA
by: Clayton Reeves

Each of China’s 1.3 billion people, on average, take only 1.3 trips a year. By 2015 that figure is expected to rise to 3.3. The government is working to stimulate this by both supporting the Association of Southeast Asian Nations' five year strategic tourism plan and the Chinese’s own “National Tourism Plan.” Nicolas Berbigier, chief executive of Xanadu, a travel agency in Beijing recently said:

Chinese consumers are finding it a lot more interesting to travel. They’re finding it a lot easier. The Yuan is expected to rise in value. Visa restrictions are diminishing every day, and the government is pretty keen on pushing people to travel.

Airbus Sales Chief, John Leahy, says that India and China are one of the main reasons his company increased forecasts recently. John said that:

Demand for travel is doubling every 15 years. But in places like India and China we expect to double in the next six years.

With all of this traveling going on, I expect there will be some winners in China stocks. The following four stocks all represent unique plays in the travel sector of China, and an investor can stand to gain if the stock fits their risk profile. Let’s get started as I discuss the Leader, the Value, the Pricey One and the Unknown.
The Leader: International, Ltd. (ADR) (NASDAQ:CTRP): is a leading online provider of travel services in China. They own half of the online market and are no longer an unknown in the world of investments. Recent research reveals that only a small percentage of all travel purchases were made online in China in 2010. However, that number is expected to multiply to at least 30% in a few short years. As one of the leaders in the online space, CTRP’s price multiples represent this advantage over their competitors. With an industry that is growing as quickly as this one, however, the multiples can be justified.
CTRP has taken a beating over the past three months after hitting highs in November. Their earnings are released on February 13th, 2011, so expect some more chatter on this stock as that day draws nearer. One of the things that draws me to CTRP as an investment is their commitment to customer service. They have over 12,000 employees, half of which are stationed in call centers to aid the frantic traveler with any request. Additionally, they have purchased some of their hotels (a first as far as I know) to further integrate and control their customer experience. Although the multiples are high, this is a Chinese stock and the growth potential with an appreciating Yuan are significant.
As I mentioned in my previous article, an increase in put-call ratios has bearish tendencies. Along with their decrease in price, I think now is a perfect time to get in on CTRP if you can stomach the risk. CTRP has projected 31.36% earnings growth over the next five years, and in an industry that looks to triple in the next three, those certainly seem appropriate. If positive earnings come out, it may be just the kickstarter the company needs to start climbing back towards their previous highs. As a result of all these things, I am confident in keeping my price ceiling of $50 and ceiling of $95 until their scheduled earnings release.
The Value: Universal Travel Group (UTA): While is the definite leader in publically traded online travel companies in China, UTA is the less sexy cousin that mainly operates in person. As a result of being a mainly offline based company, they have offline type multiples. This may be a perfect opportunity for someone that needs significant relative value to feel comfortable in an investment. If you also take into account that at least five hundred million of China’s residents will remain tied to their tangible travel agents. While this represents a sort of niche compared to the broader Chinese market, the opportunity is still huge. Their focus on packages and tours will help build image with people who are not ready to book their own travel arrangements, or do not have access to the internet to do so.
Recently, UTA received an international travel license from the National Travel Authority. Previously, they would have to book international packages through other agencies that had this license. Only about 5% of travel agencies in China received this license. Jiangping Jiang, Chairwoman and CEO of Universal Travel Group, said:

We are very excited to receive this international license which will allow us to grow our business by offering overseas package tours directly to our customers in China. With the increase number of days for national holidays and growing travel and leisure awareness, we believe the international package tour business will continue to grow. According to a report issued by the World Tourism Organization, Chinese tourists spent approximately $44 billion worldwide outside of China. We plan to leverage our international license to incorporate it into our existing business model and integrate this option into our other travel services and products.

This would seem to be a move in the right direction for a company that has been a notorious favorite for shorts. Some of those attacks, such as one from Bronte a few months ago, made claims that revealed their lack of understanding on this company. For example, John Hempton said that you could “short it off the website” when referring to UTA. Maybe he should have investigated how much business they actually did through their websites, and done some due diligence on their core business instead.

In the long corner, there is Mike Koza of Marketocracy. His returns have been phenomenal for the last 15 years and he has this to say about UTA:

[UTA] keeps chugging along, cash is piling up, disclosures are improving. CEO took more of an active role on recent earnings call. More of the allegations from the Bronte and Blodget crowd were discredited… [They] need Priceline's help and should get it, after the learning curve in their partnership is scaled over the next few quarters. New auditor is a small US-based firm with no apparent blemishes for shorts to bash. UTA still has internal financial control issues, mostly related to lack of expertise. The new auditor may help, and a higher profile CFO is supposedly in the works and is sorely needed.

He mentions something that has plagued UTA, and that is audit issues. Some say the way they burn through auditors is a reflection of their poor management and accounting controls. However, who would blame them for removing an auditor like Moore and M&A? I would call it prescient to remove an auditor like this years before the SEC caught on.

The SEC alleges that Moore and M&A violated numerous auditing standards, including a failure to hire employees with adequate technical training and proficiency. The SEC further alleges that Moore and M&A did not adequately plan and supervise the audits, failed to exercise due professional care, and did not obtain sufficient competent evidence.

In the end, UTA is not a sure fire hit. However, their dominance in packaged tours and their position in a market that will be there for a long time gives them enough presence to warrant a price floor of $6 and a ceiling of $20.
The Pricey One: eLong Inc. (NASDAQ:LONG): eLong Inc. is a subsidiary of Expedia. Their huge price multiples reflect the idea that a weathered travel player like Expedia should be able to polish up a site in a better fashion than first time companies like eLong has over 17,000 hotels in over 600 cities across China. They have access to over 130,000 international hotels and can schedule flights to 80 cities across mainland China.
eLong has been under selling pressure recently, and many are claiming that it has been oversold. I am certainly not a technical analyst, and their fundamental picture is much cloudier. Given their current PE of about 180, I can’t seem to find a reason to invest in LONG based on cash flows. While their strategic advantage and partnership with Expedia are intriguing, they simply are too pricey for my tastes. However, if an investor really wanted some solid Western backing behind a play on the Chinese travel sector, this would be in.
In addition, smart money seems to be moving towards these shares. According to Kapitall, an increase of almost 16% in institutional ownership occurred in Q4 2010. So, maybe there is something I don’t know going on. Today, Expedia released earnings that missed consensus EPS by $0.04, and got hammered down 20%. If you are interested in seeing if LONG will suffer the same fate, pay attention February 17th for their earnings release. As for me, I am more comfortable with the two travel plays above.
The Unknown: Right now, is the leading provider of online travel accommodations in China. More than a travel site, Qunar is a meta search engine that has American roots in founder Fritz Demopoulos. The advantage that Qunar boasts is that their travel search gives buyers up to the minute results of the best travel deals in China. Most of the money is made through advertising, so the focus is on the relevance of the search. I think that entrants posing a potential threat to them in this realm could be Kayak, Baidu and any other embedded online player in the China market. However, with 30-40 million unique visitors a month, Qunar is growing and is no longer a small time player in this sphere. The reason they are an unknown is because they are privately held. Look for an IPO sometime in 2011.
Conclusions: China travel is a booming sector that could provide returns for the right investor. I believe that CTRP and UTA are better plays at the moment than LONG. There are relative valuation issues surrounding CTRP and audit concerns flagging UTA, but these concerns seem overblown. This is a massive market, and still highly fragmented. If Ctrip can continue their model of vertical integration and customer satisfaction, they will retain their lead. UTA, on the other hand, only has to leverage their license through their new franchising project in order to keep winning packaged tour deals.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Disclaimer: This article is to be used for educational and informational purposes only. The author holds no positions in stocks mentioned and does not plan to initiate positions within 72 hours of the posting of this article. Investments are made at your own risk and the conclusions of this article are the author’s own and do not constitute professional investment advice. Understand the risks inherent in investing before making the decision to invest or consult an investment professional for more information. Information contained heretofore is accurate to the best of the author’s knowledge and the author expressly disclaims any liability for accidental omissions of information or errors in fact.

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