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Ctrip.com International, Ltd. (CTRP)

Q4 2006 Earnings Call

February 11, 2007 9:00 pm ET

Executives

Tracy Cui - Investor Relations

Min Fan - Co-founder; Chief Executive Officer

James Jianzhang Liang - Co-founder; Chairman of the Board

Jane Jie Sun - Chief Financial Officer

Analysts

Paul Bieber - Piper Jaffray

Jason Brueschke - Citigroup

Kit Low - Goldman Sachs

Chun Ming Zhao - Susquehanna International Group

Jenny Wu - Morgan Stanley

William Bao Bean - Deutsche Bank Securities

Lin Chi - Lehman Brothers

Ashish R. Thadhani - Gilford Securities, Inc.

George Chu - UBS

Wendy Huang - Evolution Securities

Michael Millman - Soleil Securities

Chang Qiu - Forun Technology Research

Presentation

Operator

Good day, ladies and gentlemen. I would like to welcome you to your fourth quarter 2006 Ctrip.com International Limited earnings conference call. My name is Alexis and I will be your audio coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (Operator Instructions)

I would now like to turn the presentation over to Ms. Tracy Cui. Please proceed.

Tracy Cui

Thank you for attending Ctrip's fourth quarter and full year 2006 earnings call. Joining me on the call today we have Mr. James Jianzhang Liang, Chairman of the Board; Mr. Min Fan, Chief Executive Officer; and Ms. Jane Jie Sun, Chief Financial Officer.

During this call we will discuss our future outlook and performance, which are forward-looking statements made under the Safe Harbor provisions of the U.S. Private Securities and Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, our results may be materially different from the views expressed today. A number of potential risks and uncertainties are outlined in Ctrip's public filings with the Securities and Exchange Commission. Ctrip does not undertake any obligation to update any forward-looking statement, except as required under applicable law.

Min will provide a business update for the year 2006. Jianzhang will discuss the market outlook, and Jie will give financial highlights for the year 2006, as well as the outlook for 2007. We will also have a Q&A session towards the end of this call.

With that, I will turn to Min for a business update.

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Min Fan

Thank you, Tracy. I am very glad to report the sort of performance we achieved during the fourth quarter and full year 2006. In the fourth quarter, we achieved strong growth across our business. Throughout the year, we were able to grow our net revenue by 49% year on year, and establish a good foundation for the future.

By the fourth quarter of 2006, our domestic supply network grew to approximately 4,400 hotels compared to approximately 3,400 in 2005. Hotels with guaranteed allotment rooms increased to approximately 2,200 by the end of 2006, compared to approximately 1,500 in 2005.

The number of active cumulative customers reached to 2.6 million by the end of 2006, representing a 13% growth over the previous quarter.

Innovation in products and affiliates is always our strength. To take advantage of the development of e-ticketing, we launched a one-hour express lane in the fourth quarter to accommodate the last-minute travelers to board the planes one hour before the planes take off.

Additionally, we announced Ctrip standards for international tours in the fourth quarter. Ctrip is the first travel service company in the industry to set and declare this type of standard. These service standards largely differentiate Ctrip as a high-quality service provider from other players in the market.

In terms of the competitive landscape, Ctrip remains to be the dominant market leader in China. The growth in our business continued to outpace the overall industry growth, which clearly indicates that we are gaining market share from existing players.

In 2007, we will continue to gain market share in hotel reservations and air ticketing, develop the packaged-tour business and corporate travel services, and expand into the second-tier cities in China. We will further strengthen the Ctrip brand and our core competence in technology, innovation and service.

Now I will turn to James for the market outlook.

James Jianzhang Liang

Thank you, Min. We continue to be optimistic of the future growth in the travel industry. According to the recent estimate by the government, China’s GDP in 2006 grew 10.7% from 2005, and we believe the Chinese economy is expected to grow at a similar rate in the next few years. With that, the travel industry in China will continue to grow rapidly.

Additionally, with upcoming major events such as the 2008 Olympic Games and the 2010 World Expo, we expect to see faster growth of inbound travel from countries all over the world.

We firmly believe as long as we continue to execute effectively on our strategies, Ctrip is in the best position in China to capitalize on the opportunities presented.

Now let me turn to Jane for the update on our financial performance.

Jane Jie Sun

Thanks. James. I am very pleased to report our strong results for the fourth quarter and for the full year of 2006.

Our net revenues were RMB 226 million, or $29 million, in the fourth quarter of 2006, representing a growth of 45% year over year and 8% quarter over quarter. For the full year of 2006, our net revenues were RMB 780 million or $100 million, representing a 49% increase from 2005.

Revenues from hotel reservations were RMB 138 million, or $18 million in the fourth quarter of 2006, up 33% year-over-year and 10% quarter over quarter, due to higher volume and commission per room.

The total number of hotel room nights booked was approximately 1.94 million in the fourth quarter of 2006, compared to approximately 1.52 million in the same period last year and 1.82 million in the previous quarter.

The average commission per room night increased to RMB 71, or $9, in the fourth quarter of 2006 from RMB 68, or $8, during the same period last year, and RMB 69, or $9, in the previous quarter. The average commission margin on hotel bookings was approximately 14.5% during the fourth quarter of 2006, slightly higher than 14% in the same period last year, due to relatively higher commission per room night. The average commission margin remained consistent with the previous quarter.

For the full year of 2006, hotel revenues were RMB 476 million, or $61 million, a 31% increase from 2005. The hotel reservation revenues accounted for 57% of the total revenues in 2006, compared to 65% in 2005. The total number of hotel room nights booked was approximately 6.84 million in 2006, compared to approximately 5.45 million room nights booked in 2005.

Despite the fact that the overall air ticketing industry had a quarter-over-quarter decrease in customer loading numbers, Ctrip's revenues from air ticketing remained strong at RMB 90 million, or $11 million, in the fourth quarter of 2006, up 72% year over year and 11% quarter over quarter.

The total number of air tickets sold in the fourth quarter of 2006 was approximately 1.9 million, compared to approximately 1.17 million during the same period last year, and 1.72 million in the previous quarter. The average commission per air ticket sold was RMB 46, or $6, in the fourth quarter of 2006, increased from RMB 44, or $5, in the same period last year and remained consistent from the previous quarter.

The average commission rate per ticket sold was 4.9% in the fourth quarter of 2006, down from 5.1% in the same period last year and up from 4.4% in the previous quarter, mainly due to the change in average ticket price.

For the full year of 2006, air ticketing revenues were RMB 303 million, or $39 million, an increase of 83% from 2005. The air ticketing revenues accounted for 36% of the total revenues in 2006, compared to 30% in 2005. The total number of air tickets sold was approximately 6.39 million in 2006, compared to approximately 3.67 million air tickets sold in 2005.

Revenues from packaged tours were RMB 11 million, or $1 million, in the fourth quarter of 2006, up 56% from the same period in 2005 and down 15% from the previous quarter due to seasonality. Excluding prior year’s lower-end group tours, revenue from the core FIT packages increased by 209% from the same period last year.

For the full year of 2006, packaged tour revenues were RMB 42 million, or $5 million, an increase of 83% from the previous year. Excluding the prior year’s lower-end group tour, revenues from our core FIT packages increased by 207% from 2005. The packaged tour revenues accounted for 5% of the total revenues in 2006.

The gross margin was 80% in the fourth quarter of 2006, compared to 81% for the same period in 2005 and 79% in the previous quarter.

For the full year of 2006, gross margin was 80%, compared to 83% in 2005. This decrease was largely due to the higher cost of services as a result of increased revenue contribution from air ticketing and packaged-tour business.

Product development expenses for the fourth quarter of 2006 increased by 75% to RMB 31 million, or $4 million, from the same period in 2005, and increased by 13% compared to the previous quarter, primarily due to the increase of product development personnel resources. Excluding share-based compensation charges, product development expenses accounted for 12% of the net revenue, and remained relatively consistent with 11% in the same period last year and the previous quarter.

For the full year of 2006, product development expenses were RMB 106 million, or $14 million, increased by 83% from 2005. Excluding share-based compensation charges, product development expenses accounted for 12% of the net revenue, and remained relatively consistent with 11% in 2005.

Sales and marketing expenses for the fourth quarter of 2006 increased by 46% to RMB 49 million, or $6 million, from the same period in 2005 and 2% from the previous quarter, primarily due to the increase of sales and marketing personnel resources. Excluding share-based compensation charges, sales and marketing expenses accounted for 21% of the net revenue, and remained consistent with 21% in the same period last year and decreased slightly from 22% in the previous quarter.

For the full year of 2006, sales and marketing expenses were RMB 172 million, or $22 million, increased by 53% from 2005. Excluding share-based compensation charges, sales and marketing expenses accounted for 21% of the net revenue, and remained consistent with 21% in 2005.

General and administrative expenses for the fourth quarter of 2006 increased by 92% to RMB 25 million, or $3 million from the same period in 2005, primarily due to the increase of personnel resources and the incurrence of RMB 8 million, or $1 million for the share-based compensation costs. General and administrative expenses remained consistent with the previous quarter.

Excluding share-based compensation charges, general and administrative expenses accounted for 8% of the net revenues and remained consistent with 8% for both the same period last year and the previous quarter.

For the full year of 2006, general and administrative expenses were RMB 93 million, or $12 million, increased by 118% from 2005, primarily due to the incurrence of share-based compensation charges in 2006. Excluding share-based compensation charges, general and administrative expenses accounted for 8% of the net revenues and remained consistent with 2005.

Operating income for the fourth quarter of 2006 was RMB 75 million, or $10 million. Excluding share-based compensation expenses, operating income was RMB 89 million, or $11 million, a 44% increase from the same period in 2005 and a 13% increase from the pervious quarter.

For the full year of 2006, operating income was RMB 255 million, or $33 million, increased by 15% from 2005. Excluding share-based compensation costs, operating income was RMB 310 million, or $40 million, and increased 38% from 2005.

Operating margin was 33% in the fourth quarter of 2006. Excluding share-based compensation expenses, operating margin was 39%, compared to 40% in the same period in 2005 and 38% in the previous quarter.

For the full year of 2006, operating margin was 33%. Excluding share-based compensation charges, operating margin was 40% compared to 43% in 2005.

Net income for the fourth quarter of 2006 was RMB 67 million, or $9 million. Excluding share-based compensation charges, net income was RMB 81 million, or $10 million, representing a 28% increase from the same period in 2005 and a 2% increase from the previous quarter.

For the full year of 2006, net income was RMB 241 million, or $31 million. Excluding share-based compensation costs, net income was RMB 295 million, or $38 million, representing a 31% increase from 2005.

The diluted earnings per share were RMB 2.00, or $0.26 for the fourth quarter of 2006. Excluding share-based compensation charges, the diluted earnings per share were RMB 2.41, or $0.31.

For the full year of 2006, the diluted earnings per share were RMB 7.23, or $0.93. Excluding share-based compensation costs, the diluted earnings per share were RMB 8.87, or $1.14, compared to RMB 6.97, or $0.87 in 2005.

As of the end of 2006, our cash balance was RMB 851 million, or $109 million, compared to RMB 742 million, or $92 million as of the end of 2005. The cash balance represented approximately 60% of our total assets as of the end of 2006.

For the full year of 2007, we expect to continue the year-over-year growth of net revenue by approximately 30% year over year. Before share-based compensation charges, the company expects operating margin to be approximately 35%.

With that, Operator, please open the line for questions.

Question-and-Answer Session

Operator

(Operator Instructions)

Your first question comes from the line of Safa Rashtchy with Piper Jaffray. Please proceed.

Paul Bieber - Piper Jaffray

Good morning. This is Paul Bieber for Safa Rashtchy. A couple of quick questions. Can you provide an update on the competitive landscape? Are you seeing any increased activity from airlines selling direct?

Secondly, the margin guidance implies margins going down. Can you give some color on that, please?

James Jianzhang Liang

Regarding the competitive landscape, I think the overall situation has not changed. Ctrip still maintains a dominant position in the market in terms of the hotel reservation business and also the air ticketing business. We enjoy a very strong growth in vacation package business; although some other players did do a lot of PR or advertisements in the market. I think we still will focus on our efficient and effective channels to maintain our strong awareness in the branding, so I do not think there is a big difference.

Jane Jie Sun

Regarding your second question on the margins, we conservatively forecast our operating margin to be around 35% mainly due to revenue mix. As you can see, in 2006, our air ticketing business, as well as packaged-tour business, increased significantly. As a result, the gross margin decreased as a result of the increase of these two businesses. That is the reason for the margin decrease.

I think it is a good balance in terms of revenue mix, because we wanted to have a big portion of the air ticketing revenue in the overall pool, so that is the reason why we guide our operating margin to be around 35%.

Paul Bieber - Piper Jaffray

A quick follow-up: how is the corporation travel initiative going?

James Jianzhang Liang

Corporate travel, we still enjoy a very healthy growth and every month we still add more clients than last year, so we still anticipate that during this year, our corporate travel business will still grow very healthily.

Paul Bieber - Piper Jaffray

Thank you.

Operator

Your next question comes from the line of Jason Brueschke with Citigroup. Please proceed.

Jason Brueschke - Citigroup

Great. Thank you, and congratulations, everyone, on another strong quarter. My question is going to be on e-ticketing. We saw some impact in the second-half of 2006 as the transition from paper ticket to e-tickets was implemented in China. Could you first of all give us an update on where that transition is? Secondly, and maybe more importantly, help us understand in terms of timing when you would hope to expect to see some market share gains, vis-à-vis the local travel agencies, from this changeover to e-ticketing that is going on in China? Thank you.

Jane Jie Sun

The e-ticket transition, the major impact for the e-ticket transition is behind us. Of course our team is still working very hard to fine-tune our processes to make sure every detail, every process is tightened up to service our customers very well. If you look at the Q4 growth versus Q3 growth, although they are at the same level at around 70%, but it has different meaning because the Q4 2005 base is 10% higher than the Q3 2005 number.

Also, the industry, Q4 industry data in 2006 had a quarter-over-quarter decrease, so for us to achieve a 70% increase, that already reflects a strong growth in terms of market share gain.

Going forward, we are still anticipating our team to execute strongly to gain market share from the existing small travel agencies throughout the year.

Jason Brueschke - Citigroup

Great. I will just leave it at that. Thanks.

Operator

Your next question comes from the line of Kit Low with Goldman Sachs. Please proceed.

Kit Low - Goldman Sachs

Good morning. Thanks for taking my question. Just a quick follow-up on the margin question earlier; I just want to see whether you could shed some light on what are your assumptions when you make the 35% margin assumption? There is a mix shift on revenue between air and hotel. If I were to assume say a 6% change, given that air ticketing is a 70% margin business and the hotel is a 90% margin business, even if I wanted to be really conservative, I am looking at probably about a 2% decline on a year-on-year basis versus a 5% decline versus 2006? Is that the right way to look at it?

Jane Jie Sun

Yes, sure. Our revenue guidance for year over year is around 30%, which has included 20% revenue growth from the hotel business and 45% revenue growth for air ticketing, and around 70% year-over-year growth for the tour package. If you do that, it will give you around 35% operating margin, assuming that the operating expenses remain consistent as a percentage of net revenue.

Kit Low - Goldman Sachs

I see, okay, thank you. Just a quick second question; in terms of the air ticketing business, the volume growth probably had decelerated on a year-on-year basis, starting from the third quarter, partially because of e-ticketing issues and this further decelerated from the 66% to about 62% in the fourth quarter. I just want to get some sense -- you said you have seen that bottoming. Is that going to probably be continued through -- a little slow on a year-on-year basis growth going forward?

Jane Jie Sun

In terms of absolute tickets booked, we still see a quarter-over-quarter increase, very healthily. However, if you are calculating as the percentage of previous years, and also a percentage of previous quarters, since we are comparing to a bigger base, mathematically as the percentage of quarters’ number, or prior year’s number, the percentage will decrease a little bit. But we also monitor absolute tickets booked very carefully and that number is increasing at a very healthy pace. I think that is still a very good execution.

Kit Low - Goldman Sachs

Thank you. That is really helpful. I will pass it along to someone else.

Operator

Your next question comes from the line of Chun Ming with Susquehanna International Group. Please proceed.

Chun Ming Zhao - Susquehanna International Group

Thank you. Just a question on some of the numbers in your earnings. One is the interest income has come down. You mean your cash balance is going up. Could you help us understand that?

The second is the financial subsidy. Also, could you update on what we should expect in 2007?

Lastly, on the balance sheet, there is a big increase in the property, equipment and software, about $6 million. Could you also comment on that, please? Thank you.

Jane Jie Sun

Sure, sure. First of all, the interest income comes down a little bit mainly due to the rate. Because in Hong Kong, the rate comes down quarter over quarter. That is a reflection of the rate decrease. Also, the cash balance we had in Hong Kong is decreased a little bit also, and that normally enjoys a higher rate than the rate we enjoy in China. That is the reason for the interest income to come down.

The second question on the subsidy, we expect the subsidy income to be consistent from the level we had in 2006. Ming, what was your third question?

Chun Ming Zhao - Susquehanna International Group

The third question is the property, equipment and software item on your balance sheet. It increased. Could you comment on what that is?

Jie Sun

The PP&E, okay -- that number is mainly due to the new building, so for this year, we spent about $10 million for the new building and the majority of the increase reflects the amount we spent for the new building.

Chun Ming Zhao - Susquehanna International Group

Thank you.

Operator

Your next question comes from the line of Jenny Wu with Morgan Stanley. Please proceed.

Jenny Wu - Morgan Stanley

Hi, everyone. I have two questions. First one is we saw the packaged tour decline by 15% quarter over quarter, and the only thing is mainly due to the seasonality. Would you please help us understand better the other, anything else which contributed to this decline?

Min Fan

Normally the Q4 season is a lower season compared to, especially in November and December. If you compare our vacation package tour business, the data, we included lower-end tour package last year, so if you do not compare that type of business, still our vacation packages grew at three digits.

I think overall, the vacation package growth is quite healthy, especially compared with other players in the market.

Jane Jie Sun

Jenny, I think normally Q2, Q3 because it is the summer season, people tend to book more tour packages. In the winter season, for Q4, Q1, relatively, tour packages have a lower booking rate. That is one of the reasons why you see a quarter-over-quarter decrease. That is mainly due to the seasonality, as Min said.

Jenny Wu - Morgan Stanley

Okay, thank you. My next question is on the hotel bookings. I would highly appreciate it if you could help us understand your progress in Tier-I cities and Tier-II cities in terms of the number of hotels and sales growth and also gross margin.

Min Fan

For the hotel booking business, if you go back and look at the whole year, you can see the change in production from the first-tier cities, the hotel room nights has comparatively decreased from over 50% to around 50%. That means we have more production from the second-tier cities in terms of hotel bookings.

We also put more new hotels among our second-tier cities. Every season you can see we have more than 100 new hotels added to our hotel booking pool. Most of them are from the second-tier cities. So in the coming year, we still anticipate that we still will have more production generated from the second-tier cities. But if you compare the total volume, although the growth rate among the second-tier cities is higher, and the growth rate among third-tier cities is lower, but the absolute amount from the first-tier cities still is the major production.

Jenny Wu - Morgan Stanley

Okay. What is the gross margin difference between these two different cities?

Jane Jie Sun

In terms of gross margin, it is kind of hard to distinguish them because we shared a lot of resources for the platform. But in terms of the commission, I think first-tier cities definitely enjoy a higher margin than second-tier gross margin. However, the volume growth in the second-tier cities is higher than the first-tier cities, so both of the factors offset each other. The revenue contribution from first-tier cities versus second-tier cities is 50% versus 50%. They are even right now.

Jenny Wu - Morgan Stanley

Okay. Thank you.

Operator

Your next question comes from the line of William Bean with Deutsche Bank. Please proceed.

William Bao Bean - Deutsche Bank Securities

Thanks for taking my questions. I just wanted to go through the housekeeping stuff first. Could you just give us a sense of your repeat customers again?

Jane Jie Sun

Sure. Repeat customers are around 80%, consistent with last quarter.

William Bao Bean - Deutsche Bank Securities

Okay, great, and then GA bookings as a percentage of total?

Jane Jie Sun

You mean guaranteed allotment?

William Bao Bean - Deutsche Bank Securities

Yes.

Jane Jie Sun

It is around 75%.

William Bao Bean - Deutsche Bank Securities

And then hotel bookings by international customers?

Jane Jie Sun

That is around 5%.

William Bao Bean - Deutsche Bank Securities

And online transactions, percentage of total?

Jane Jie Sun

Around 30%.

William Bao Bean - Deutsche Bank Securities

E-ticket, as a percentage of total?

Jane Jie Sun

Recently, it is over 90%.

William Bao Bean - Deutsche Bank Securities

Q4 is 90, or just recently?

Jane Jie Sun

90, over 90.

William Bao Bean - Deutsche Bank Securities

And then outbound tickets as a percentage of total?

Jane Jie Sun

Outbound tickets as a percentage, in terms of the volume, it is around 7%, and in terms of the dollar amount, that is around 15%. I believe that is consistent with the prior quarter also.

William Bao Bean - Deutsche Bank Securities

Yes. And then packaged-tour departure cities?

Jane Jie Sun

I’m sorry?

William Bao Bean - Deutsche Bank Securities

Packaged-tour cities, departure cities?

Jane Jie Sun

Departure cities, that is 11, 11 cities.

Min Fan

Still 11 departure cities.

William Bao Bean - Deutsche Bank Securities

Okay, great. And then, your brand, customers generated from brand or word-of-mouth?

Jane Jie Sun

35%.

William Bao Bean - Deutsche Bank Securities

And I don’t know if you can give us an update on your call center staff?

Min Fan

Right now, the total call center staff is over 2,000, including hotel booking and the airline ticketing call-in engines.

William Bao Bean - Deutsche Bank Securities

Is that up or down from the 2,400 or so in Q3?

Jane Jie Sun

I think it is very consistent in Q4, with a slight increase.

William Bao Bean - Deutsche Bank Securities

Okay, and if I could just follow up, I believe your hotel commission was 15% in Q3 and then 14.5% in Q4. Could you just give us a sense of why the commission fell? I think this is the first quarter that it has fallen.

Jane Jie Sun

Sure. It is actually surrounding -- in previous quarters, it was 14.7%, and this quarter was 14.5%, so it is very consistent. If you compare the hotel room rates, last quarter was a little bit lower than the current quarter, so that is the reason for a 0.2% decrease.

William Bao Bean - Deutsche Bank Securities

Okay, and my last question, I have been poking around on the Internet and I am using some of the aggregation, the price aggregation sites and it seemed to be able to find lower prices for some tickets versus your prices. Can you just give us an update on whether you think these prices are real, what the impact will be on your business?

Min Fan

I think right now in China, there are just a few big travel websites and Ctrip is definitely one of the biggest ones. For those travel search engines in China, in fact, they can compare so many prices among the websites, because in China the -- for example, for airfares, the three major airline companies already decided all the airfares, so normally the airfare is almost the same if you go with this company or you go with that company, so I do not think the travel search engine, they have a lot of market to grow. Sometimes maybe there are some very low prices you can search from their engine, but those kinds of pricing will not be so available if you really call them. Those kinds of airfares are very special airfares and is not the normal FIT rate.

I do not think the search engine in China is quite like that in the States, because in the States you have a lot of different suppliers. But in China, if you are talking about the online travel websites, it is only just a few, two or three major providers in China. So I think although they will have some impact on how you can search the airfare or hotel room price, but the results, you cannot find a lot of room to get.

William Bao Bean - Deutsche Bank Securities

Thanks, guys. Nice quarter. Thanks.

Operator

Your next question comes from the line of Lin Chi with Lehman Brothers. Please proceed.

Lin Chi - Lehman Brothers

Hi, good morning. Thank you for taking my questions. I just have a quick follow-up on the penetration in second-tier cities regarding the air ticketing business. What do you see the competition there of Ctrip versus the traditional agents? Have you been able to gain further market share in those markets for air ticketing? Thanks.

James Jianzhang Liang

You can see in the last quarter, the customer order base has decreased according to major airline companies, but still we enjoyed quarter-over-quarter growth. I think this is definitely we have gained a lot of market share from the small players of the traditional travel agencies, and especially since the e-ticketing. I think most of our customers, they will be more comfortable if they can book by a big company with a branding awareness, especially if you need to buy your e-ticketing with your credit card. So definitely I think with the 100% e-ticketing by the end of this year definitely will benefit Ctrip the most.

Lin Chi - Lehman Brothers

So the trend, even in the second-tire cities, is very obvious?

James Jianzhang Liang

The trends in the second-tier cities in fact is almost similar because most of the major airports among the first-tier cities and for the second-tier cities, those travel cities, they also will adopt e-ticketing 100% by the end of this year. So we will see a similar situation among those cities.

Lin Chi - Lehman Brothers

Okay. Thank you.

Operator

Your next question comes from the line of Ashish Thadhani with Gilford Securities. Please proceed.

Ashish R. Thadhani - Gilford Securities, Inc.

Yes, good morning. I just want to clarify your comments on the margin outlook. Should we infer that if air and packaged tour continue to outpace hotel growth, if that were to be the case, then margins would continue to fall?

Jane Jie Sun

No, because if the air ticketing and hotel is at the same rate, we expect the gross margin to be stabilized at around 75%. That is a gross margin that can be very much stabilized based on the current visibility we have.

Ashish R. Thadhani - Gilford Securities, Inc.

Okay, so the operating margin should stabilize at 35% then, as a floor?

Jane Jie Sun

Yes, based on our current plan.

Ashish R. Thadhani - Gilford Securities, Inc.

And on your revenue outlook of 30% growth, which is lower than what was accomplished this year and the 40% that you have been targeting in the past; again, a clarification: does this reflect any shift in market trends or is it conservatism?

Jane Jie Sun

I think for the market perspective, as James said, it is very strong. We estimate, we do our forecast very conservatively because we are coming off a very strong quarter in Q4 2006 and we are going to a relatively slower season in Q1, so based on our limited visibility, we normally provide our guidance very conservatively.

Ashish R. Thadhani - Gilford Securities, Inc.

Okay, and one housekeeping item: what would be the outlook for the tax rate?

Jane Jie Sun

The tax rate should be very consistent with 2006, so after stock compensation, the tax rate should be somewhere around 15% to 18%, and before stock compensation, it should be somewhere around 12% to 15%.

Ashish R. Thadhani - Gilford Securities, Inc.

Okay. Thank you very much.

Jane Jie Sun

Thank you.

Operator

Your next question comes from the line of George [Chu] with UBS. Please proceed.

George Chu - UBS

Thank you for taking my question. My question is on the long-term outlook for the hotel booking business. In consideration of two factors: one, there is more and more discount hotels that are opening up and they tend to bypass ad agency. Second, I think a lot of hotels are actually already marketing directly to the customer. I hear some numbers that as much as 50% of all hotel bookings are direct, either walk-in or by the means of a centralized booking.

I just want to know: in consideration of these two factors, do you think the hotel business, the hotel room business could be in danger of reaching a saturation in terms of market share a few years down the road, or faster than the airline business? Thank you.

James Jianzhang Liang

For the hotel business, as you said, recently more and more discount hotels or budget hotel chains are emerging from the industry. Because most of our clients focus on these three-star, four-star, five-star hotels, so those types of hotel chains do not affect our business so much. According to our booking, below 20%, or around 10% are low-end, or those clients who book one- or two-star hotels. So although those kinds of discount hotels, they will market their rooms directly and I do not think they will have a deep impact on Ctrip's business.

For the overall hotel business, I think still we anticipate our hotel business will growth quite healthily. Although our first-tier hotel business is growing, did not grow so fast as before but still, every season you can see we still have quite some room to grow. For the second-tier cities, I think in fact we just enjoy a quite good growth, a quite healthy growth on second-tier cities.

Overall, I think the hotel business will still grow at a reasonable pace. I think for our hotel business, definitely we will double or triple the natural hotel growth rate in the industry. That means, for example, in the first-tier cities, in Shanghai, Beijing, and with the upcoming big events like the Olympic Games and Expo, the demand for hotel business is quite high, so we still can see the hotel business will grow in the coming years.

George Chu - UBS

Thank you.

Operator

Your next question comes from the line of Wendy Huang with Evolution Securities. Please proceed.

Wendy Huang - Evolution Securities

Congratulations. I have two questions. First, just a quick check on your operating margin guidance. Is that 35% including share-based compensation costs, or excluding share-based compensation costs?

Jane Jie Sun

It is excluding share-based compensation.

Wendy Huang - Evolution Securities

And the second question is that I understand that you are gaining market share from small agencies post the e-ticketing transition. Could you also comment on the competition from the airlines and the second-tier online traveling websites, like [Mango City]?

James Jianzhang Liang

I think the [Mango City], they are doing quite good PR among the big cities and they try to attract those young people, those people incentives with prices, so I think the position on marketing focus is different from what we are focused on. I think for Ctrip, we will still focus on our effective and efficient marketing influence, focus on our efficient channels and we will not do big mass marketing which will not add value for money.

I think although we will see in the coming year, we still will face fierce competition from other players. I think for the customers, they will still choose upon the branding and the quality service and the product line.

Wendy Huang - Evolution Securities

Thank you.

Operator

Your next question comes from the line of Michael Millman with Soleil Securities. Please proceed.

Michael Millman - Soleil Securities

I have several questions. I wanted to follow up on the hotel question. In particular, we are seeing a lot more U.S. branded hotels going into China. If you could comment on what kinds of commissions they pay, what kind of availability do you have with them, and are they pushing to go basically direct to consumers?

Min Fan

In fact, I think for those international branded hotels, in some ways, they will get more revenue, you know, because normally those hotels will sell at a higher room rate than the local hotels. We cooperate with every international branded hotel in China. We do not think that those international hotels, they will mainly focus on selling hotels directly from their own website or from their own call center, because those international hotels, their coverage and their service capability is not like that in the States.

In the operation, we still get quite a lot of customers. They will still log on to Ctrip or call Ctrip to find a suitable hotel instead of going direct to their call center website.

I think more and more, those international hotels get established in China, they will in some way will raise the total revenue.

In terms of the commission rate, I think we have the same commission rate as before, so it still will not be different.

Michael Millman - Soleil Securities

Okay, so assuming they have higher ADRs, you will actually end up getting a higher dollar amount, or --

Min Fan

Yes, we get a high dollar amount in commission, especially from first-tier cities where it is high ADR. So in that way, on the other hand, we get more and more from second-tier cities, so in some ways, those effects offset each other. So still we get a similar, or around a similar commission rate.

Michael Millman - Soleil Securities

My next question is on operating leverage. When you look at your expenses relative to revenue, they do not seem to be going down as you might expect. Could you talk about why we are not seeing better financial leverage?

Jane Jie Sun

Sure. Our business model is very much based on a variable model. It is not like a hardware company where you buy a piece of equipment, and the more revenue you generate, the higher return it will get.

Our model is very much based on people, and certain sales people, one salesperson can only generate certain revenues and can only take a certain number of the calls. So that is why as a percentage of total revenue, operating income has remained very consistent from year to year.

The second reason is also the market is till fast-growing, so it is very critical for us to invest in the future growth. Therefore, we intentionally, to keep the operating expenses as a percentage of net revenue at a consistent level, if we reduce the costs to too low a degree, then it will impact our future growth. That is the reason why you see our operating margin as a percentage of total revenue is consistent from year to year.

Michael Millman - Soleil Securities

I see. Also, on the balance sheet, and maybe I missed this, your accounts receivable about doubled year over year. Could you talk about what is the driving force behind that?

Jane Jie Sun

Sure. The accounts receivable increased year over year. 40% of the increase is mainly due to the hotel receivable, and that AR is increasing, the turns of the AR is very fast. Thirty-eight days after the AR was booked normally we collect it from our hotel partners right away. Historically, the AR collection write-off is zero, so that is 40% of the increase.

Another 30% of the increase is mainly due to the AR due to the air ticketing booking. We need to get the authorization from our customers and they will give us the credit card number to collect, so 30% of the increase is from the credit card company. Normally that is within a very short time period also.

The rest of it is because of our corporate travel, and so far, our collection for corporate travel has been very good also, and there is no write-off so far.

Michael Millman - Soleil Securities

I see. Thank you. And finally, at least in the U.S., there has been a great deal of interest by private equity firms and travel companies. Can you talk about whether you are seeing any inquiries by potential buyers?

Jane Jie Sun

We normally do not comment on M&A opportunities, but of course we will evaluate different opportunities and make sure to the extent it is good for the company, good for the shareholders, we will consider it. But it is our company policy to not comment on M&A opportunities.

Michael Millman - Soleil Securities

Okay. Thank you very much, appreciate it.

Operator

Your final question comes from the line of Chang Qiu with Forun Technology Research. Please proceed.

Chang Qiu - Forun Technology Research

Good morning, everyone. A few questions, actually. One is what is your expected amount for stock-based compensation for 2007?

Jane Jie Sun

Stock compensation, it is a very important tool for us to attract and retain key employees. However, it has a cost, based on FAS-123R. So we will take a balanced view to make sure the costs and benefit is balanced out. It seems the stock compensation is highly linked to stock prices, which we have no control over, so we cannot provide you with any guidance as to how much the stock compensation is, but definitely we always balance out the cost versus the benefit when we grant stock options.

Chang Qiu - Forun Technology Research

Right, okay. Also, could you give us the number for cash flow from operations and also CapEx for 2006? Also, maybe your CapEx plan for 2007?

Jane Jie Sun

Sure. The cash flow will not be finalized until we file Form 20-F, but roughly, operating cash flow we generate, it is around RMB 80 million on a quarterly basis. In 2006, a couple of major cash outflows included around $10 million we spent on the new building, and $10 million we spent for the cash dividends, and another $10 million for our investment in the Taiwanese company, so those are the major items in the cash flow. But the final number, we will publish when we file our Form 20-F.

For 2007, the major cash outflow again will be around $15 million cash outflow for the new building and around $10 million to $15 million cash outflow for cash dividends. That is what we can see, based on the current visibility.

Chang Qiu - Forun Technology Research

Okay, all right. Thank you, and also, congratulations.

Jane Jie Sun

Thank you.

Operator

Ladies and gentlemen, that concludes our question-and-answer session for this morning. I would now like to turn the presentation over to management for closing remarks.

Tracy Cui

That concludes our call. Thank you.

Jane Jie Sun

Thank you very much.

Min Fan

Thank you.

James Jianzhang Liang

Thank you.

Operator

Ladies and gentlemen, I would like to thank you for your participation in today’s conference. This now concludes the presentation. You may all disconnect and have a wonderful day.

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Source: Ctrip.com Q4 2006 Earnings Call Transcript
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