eLong's CEO Discusses Q2 2011 Results - Question & Answer Session Transcript

| About: eLong, Inc. (LONG)

eLong, Inc. (NASDAQ:LONG)

Q2 2011 Earnings Call

August 8, 2011 8:00 PM ET

Executives

Guangfu Cui - CEO

Mike Doyle – CFO

Philip Yang - Investor Relations

Analysts

Eddie Leung - Merrill Lynch

Ming Zhao - SIG

Muzhi Li - Mizuho Securities

Fawne Jiang - Brean Murray

Operator

Good day to everyone and welcome to eLong's Second Quarter 2011 earnings report conference call. (Operator Instructions) I will now hand over the line to Philip Yang and I will be standing by for the Q&A session. Please go ahead, thank you.

Philip Yang

Hello everyone, thank you for joining eLong’s second quarter 2011 conference call.

Today, Guangfu Cui, our CEO, will make some remarks about the company’s performance in the second quarter 2011 followed by Mike Doyle, our CFO, who will provide additional detail on our financial results. Following their prepared remarks, Guangfu and Mike will be available to take your questions.

Before the management presentations, please allow me to read our Safe Harbor Statement. During this call representatives of the company will make certain forward-looking statements within the meaning of the U.S. Securities Act and the Securities Exchange Act. These statements are based upon management’s current views and expectations with respect to future events and are not a guarantee of future performance. Furthermore, these statements are, by their nature, subject to a large number of risks and uncertainties that could cause actual performance and results to differ materially from those discussed in the forward-looking statements as a result of a wide variety of factors. eLong undertakes no obligation to publicly update any forward-looking statements whether as a result of new information, future events or otherwise. Please refer to the risk factors described in our Annual Report on Form 20-F, as well as the full text of the Safe Harbor Statement in our Form 6-K, which will be furnished to the SEC in connection with our press release and this call, for discussion of some of the important factors that could affect future results.

I will now turn the call over to our CEO, Guangfu Cui.

Guangfu Cui

Thank you, Philip. Hello everyone, thank you for being on this call.

The highlights for the second quarter of 2011 were 43% year over year accelerated growth in hotel room nights to 2.2 million compared to 1.5 million in the second quarter of 2010, and the further penetration online with approximately 55% of our hotel bookings coming from our websites. eLong online hotel bookings exceeded call center phone bookings for the first time. This milestone reflects our focused online strategy. We will continue to invest our marketing and product development resources online. We increased net revenue by 17% year over year to RMB139 million. In addition, in May 2011, we welcomed strategic investments by Tencent Holding Limited and co-investment by Expedia, Inc.

Our domestic hotel coverage network expanded 72% to over 21,000 domestic hotels as of June 30, 2011, compared to 12,200 as of June 30, 2010. In addition, eLong.com offers customers almost 140,000 hotels worldwide through our interface with Expedia. eLong.com continues to be the largest online distributor of hotels in China in terms of hotels offered which can be directly booked. During this quarter, eLong continued to promote group buy hotel products and our coupon program. To compete and win, we must provide customers with a broad variety of hotel products at competitive price and with an outstanding user experience.

We have been improving our customer experience both online and offline. In the second quarter, we continued to upgrade our website providing customers with faster page loading times and better usability. In addition, our call center has continued its high quality service.

Due to the elimination of our air ticket cash transaction business, we continue to see a flat or slight decrease in our air ticket business, and this may continue a few more quarters. We believe this action will improve our competitiveness in our air ticketing operations in the long run as we focus on providing outstanding service to the growing number of credit card and other non-cash transaction customers.

Our initiatives remain the same as shared with you in February earnings release call:

To offer more competitively priced products for our customers;

To offer more domestic hotels;

To improve online marketing effectiveness and efficiency; and

To improve online booking experience and overall customer service quality.

Our objective is to win hotel online booking, which includes acquiring customers online, serving customers online, and retaining our customers online. We are executing well against our strategy so far.

In addition, we and Tencent have started to form a solid partnership to develop online travel products and distribute eLong’s hotel inventory to Tencent’s users in China. We are working with Tencent on a number of cooperative initiatives, including integrated eLong hotel inventory on go.qq.com; eLong group buy hotel inventory on tuan.qq.com; and cooperation on travel content with trip.elong.com.

Now, I would like to hand the call over to Mike for a review of our financial results.

Mike Doyle

Thank you, Guangfu. In the second quarter, strong online hotel performance drove year-on-year net revenue growth to 17% as well as driving an improvement in gross margin. Income from operations was RMB12.5 million, a decrease of RMB3.7 million from our income from operations of a year ago and net income was RMB7.1 million, a decrease of RMB2.2 million from our net income of a year ago.

Our Q2 hotel reservation business benefited from our broader hotel inventory portfolio, website improvements and our coupon program. Room nights booked through eLong increased 43% year-on-year to 2.2 million.

In the second quarter, hotel commission revenue increased 22% compared to the second quarter of 2010, primarily due to higher volume, partially offset by lower average commission per room night. Commission per room night decreased 15% year-on-year primarily due to lower hotel average daily rates as prices fell compared to higher ADRs achieved during Shanghai World Expo a year ago, the impact of continued mix shift to budget hotels and the growth of our coupon program. Hotel revenue now represents 70% of our total revenues, which is an increase from 68% in the second quarter of 2010. Budget hotels contributed 38% of our room night volume up from 35% a year ago.

Air ticketing commission revenue increased 6% for the second quarter of 2011 compared to the second quarter of 2010, driven by an increase in commission per segment, which was partially offset by a 4% year-on-year decrease in air segment volume to 568,000. Commission per segment increased 10%, due to a mix shift to international tickets and a 7% increase in average ticket prices compared to the prior year.

Other revenue is primarily derived from advertising on our websites and travel insurance. Other revenue increased 13% year-on-year for the second quarter of 2011, mainly driven by increased advertising and travel insurance revenues. Other revenue is 8% of total revenues, consistent with the second quarter of 2010.

Gross margin in the second quarter of 2011 was 74% compared to 72% in the second quarter of 2010, mainly due to the faster rate of growth of our higher margin hotel business as compared to our air business, an increased proportion of online bookings and improved air revenue per segment.

Total operating expenses increased 30% or RMB21.0 million for the second quarter of 2011 compared to the second quarter of 2010. Total operating expenses increased to 65% of net revenues in the second quarter of 2011 from 59% in the second quarter of 2010.

Service development expense increased 20% in the second quarter of 2011 compared to the second quarter of 2010, mainly driven by an increase in employee compensation and headcount. New service development hires were added to continue improving our online user experience and technology systems, as well as to expand our hotel coverage. Service development expense was 16% of net revenues, consistent with the same quarter of 2010.

Sales and marketing expenses for the second quarter of 2011 increased 42% or RMB16.3 million over the second quarter of 2010, mainly driven by increased online marketing expenses and hotel commission payments to third-party online affiliates and distribution partners. Sales and marketing expense increased to 40% of net revenues in the second quarter of 2011 from 33% in the same quarter of the prior year. We believe the future business online plans to continue investing aggressively in order to acquire new customers online and promote our brand.

General and administrative expenses for the second quarter of 2011 increased 7% compared to the second quarter of 2010, mainly driven by higher share-based compensation charges. General and administrative expenses decreased to 9% of net revenues in the second quarter of 2011 from 10% in the same quarter of the prior year.

OIBA or Operating Income Before Amortization in Q2 was RMB18.1 million down 13% from RMB20.8 million in Q2 2010 due largely to higher sales and marketing expenses. OIBA margin was 13.0%, down from 17.5% in Q2 2010.

Other Expense in the second quarter of 2011 was RMB3.2 million, compared to Other Expense of RMB2.9 million in the second quarter of 2010. The increased Other Expenses were comprised primarily of RMB8.1 million foreign exchange losses, partially offset by interest income of RMB5.3 million.

Income tax expense in the second quarter of 2011 was RMB2.3 million, compared to income tax expense of RMB3.9 million in the second quarter of 2010, equivalent to an effective tax rate of 24% as compared to 30% a year ago. The decrease of income tax expense was from a one-time income tax benefit related to a government sponsored technology investment initiative that was booked in the second quarter of 2011.

Net income for the second quarter was RMB7.1 million, compared to net income of RMB9.4 million in the second quarter of 2010. Adjusted Net Income in Q2 2011 was RMB21.4 million up 18% from RMB18.2 million in Q2 2010.

Moving to our Balance Sheet, I’d like to mention that as of June 30, 2011, eLong held cash and cash equivalents, short-term investments and restricted cash of RMB1.8 billion or US$283 million. Of this balance, 59% or US$167 million was held in US dollars. In July 2011, eLong converted US$127 million from US dollars to RMB to decrease our potential future foreign exchange loss in the event of additional appreciation of the RMB against the US dollar.

And finally, let me share with you our Business Outlook for the third quarter of 2011. We expect Q3 net revenues, net of business tax and surcharges, to be within the range of RMB152 to RMB165 million, an increase of 10% to 20% compared to the third quarter of 2010. This guidance reflects our expectation as of the current date and includes, among other factors, the impact from our system outage in July 2011.

This concludes my remarks; and, Guangfu and I look forward to any questions you may have. Moderator, if you would now open the call for questions.

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. (Operator Instructions) Our first question comes from Mr. Leung. Sir, you may proceed.

Eddie Leung - Merrill Lynch

Hey, good morning Mike and Guangfu. Just a couple of questions. The first one is when I looked at the increase in marketing costs, I’m wondering that you know could you share with us how much is the recruitment cost going up on an year-to-year basis because we’ve heard a lot of stories about inflation especially on the online advertising side? And could you also provide us the outlook in terms of margins, let’s say for the upcoming quarter? Thanks.

Mike Doyle

Eddie, this is Mike. On sales and marketing expense we have continued to see an increase in cost per clicks, though the increases have moderated based on what we were seeing even a year ago. I think the expense – the increase in expense that you see on the sales and marketing line is due to just a more aggressive pursuit of acquiring customers online across all channels it includes traditional keyword hitting on search engines, our use of vertical search as well as a number of other marketing channels including our affiliate business.

Eddie Leung - Merrill Lynch

Got that. And then the margin outlook?

Mike Doyle

We don’t provide guidance on margin. We saw a decent pick up in gross margin for the quarter based on two strong trends, which is mix shift to our higher-margin hotel business from air, and also to our online fulfillments channel. We expect both of those trends to continue. But we are also experiencing some increase in transaction cost due to increases in labor cost in the market.

Eddie Leung - Merrill Lynch

Got that. And then my last question is, yes, on your custom pull-outs. After you guys rolled out certain initiatives in terms of promotional strategy, in terms of shifting your focus from hotel to air, have we seen the user pull value in terms of demographics, geographical coverage, et cetera changing in the past a year or so? Thanks.

Mike Doyle

We don’t regularly track the demographics by customer segment. It’s not something that we shared. We have shared certainly geographic mix on these calls and we haven’t seen as significant change in the composition of our room night mix. We’re still about 40% of our room nights coming the four Tier-1 cities, so we have seen a faster rated growth in Tier 2 and Tier 3 just not a material shift yet in mix. I think – it’s early to the mix of leisure and business customers. Again not at the profile that we regularly track, but we do believe that our growth is coming very strongly from the leisure segment.

Eddie Leung - Merrill Lynch

Got it. I’ll go back to the queue. Thanks.

Operator

Our next question comes from Fawne Jiang. Ma’am you may proceed.

Fawne Jiang - Brean Murray

Hi good morning Guangfu and Mike. My first question is actually regarding your pricing trends in the second quarter both on hotels as well as on the air sites. On the hotel side, since the commission per room night that has seen largest year-over-year decline ever, just wonder what contribute to that decline also what’s your current exposure to budget hotel sector? Going forward in terms are we going to see similar level of the commission per room night cut in the third quarter?

Mike Doyle

Okay. Let me respond. This is Mike. We have continued to see similar trends in revenue per room night with one exception. So in prior quarters call, the majority of the revenue per room night decline was related to fewer trends, one was mix shift to budget hotels and the other was the increasing popularity of our coupon program. Both of those two trends continued in Q2 but in addition we saw year-on-year decline in ADRs based on a higher average daily rates realized during the Shanghai World Expo last year. So in the past while we have also called out on these calls that ADR has declined it was almost entirely related to mix shift to budget hotels, this quarter we had a third factor which was absolutely ADR declines across the most star categories.

You asked about the – the mix of budget hotel room nights, we’re at now 38% of our total nights up from 35% a year ago.

Fawne Jiang - Brean Murray

Got it. Regarding the average data ADR decline or (inaudible) segments of the hotel, I guess like the budget forecast do you have it has the sharpest decline?

Guangfu Cui

Yeah, that’s correct. So we track ADRs across all star categories and saw decline in all start categories with the exception of five stars, and the ADR decline was largest in the budget hotel space.

Fawne Jiang - Brean Murray

Got it. Regarding the pricing for the air, see you have a pretty good year-over-year promotion per segment increase, just wonder how much of that was going to driven by shut in the international travel, how was as a result of ADR and average ticket price increase?

Guangfu Cui

So we saw a pretty healthy increase in average ticket value among our domestic tickets. We actually saw a decrease in average ticket value with our international tickets, but given the mix shift international it was still enough to result in a positive year-on-year trend for the overall air business and that is the primary driver the blend of average ticket value and the higher commission per segments, the actual commission rate for a segment was not changed significantly.

Fawne Jiang - Brean Murray

Got it. And next question is actually regarding on collaboration with could you give us a little bit color regarding what’s the plan for the next two or three quarters? Also specifically I think you have launched a couple of websites in July what was trend we have observed in July?

Guangfu Cui

This is one of typical question. So we have just launched corporation with higher in July, and so there are a couple of initiatives that we are doing now. So first one is to fully integrate therefore eLong hotel inventories on go.qq.com. Second, we have integrated eLong Group by inventories and added that to (inaudible).com. Number three, we have now redirect traffic from QQ.com prototype through trip.elong.com.

So these three initiatives we have already started corporation with Tencent. It’s too early to tell the effect and we are also planning other areas cooperation and we will share with you when they are launched. Thank you.

Fawne Jiang - Brean Murray

Got it. Thank you, Guangfu. I’ll jump back to the queue.

Guangfu Cui

Thank you.

Operator

Our next question comes from Mr. Zhao. Sir, you may proceed.

Ming Zhao - SIG

Thank you. Good morning, gentlemen. A follow-up question on the hotel room rate cut into third quarter. Are you seeing the same trends as the ADR is decreasing year-over-year into the third quarter?

Guangfu Cui

We are, and we expect to see that given the higher ADRs realized during Shanghai World Expo last year. So we believe that we will have a tough ADR comp through the third quarter until the end of the Expo.

Ming Zhao - SIG

But from the quarter-over-quarter comparison, is it higher or lower?

Guangfu Cui

We haven’t provided that guidance, but on year-over-year basis it is falling.

Ming Zhao - SIG

Okay. Second question is about the digital coupon program. How big is that compared to the mix shift towards budget hotel in terms of causing the commission per room going down in the second quarter which one is a bigger factor?

Mike Doyle

The impact from mix shift to budget in the expansion of the coupon program are about an equal driver in the 15% year-on-year revenue per room rate decline. The absolute decline in ADR would be the third most important factor, but it is less than the first two.

Ming Zhao - SIG

Okay. The last question is about – the labor cost increase impacting your numbers, we are hearing CTrip having that issue, are you guys seeing that same problems actually your gross actually it will be higher so wonder what are you thinking here?

Guangfu Cui

Yes, we have seen a pretty significant increase in labor cost, while we did deliver a higher gross margin for the quarter the improvement from the trends of shifting our business to hotel and to online were offset by the increased labor costs.

Ming Zhao - SIG

Okay thank you.

Guangfu Cui

Thank you

Operator

Our next question comes from Mr. Li. Sir you may proceed.

Muzhi Li - Mizuho Securities

Hi thank you for taking my questions and good morning. I would like to ask about where do you see the impact on your marketing expenses due to the merger of Qunar and the Baidu? Thank you.

Guangfu Cui

This is one part of your question. We believe consumers bring one we have travel charges and we welcome fair competition in the travel marketplace in China. This had always been our precession and we cooperate with large number of partners to provide competitive products and service to our customers. We are, therefore, very concerned that she received the consolidation of travel related search with the announcement of the acquisition like Baidu of Qunar or strategic investment from Baidu to Qunar, if you would like to say it in that way.

As you know, Baidu is the dominant search engine in China with more than 25% of the search market according to recent third-party estimates. Qunar is a major online travel search engine. Their proposed combination would license competition in travel related search in China and create the opportunity for the abuse of market dominance by Baidu with Qunar. We hope this proposed acquisition of strategic investment from Baidu to Qunar does not affect the integrity of Baidu’s search results lead to favoritism of Qunar products or to other monopolistic behavior and therefore hunt consumers and other advertisers on Baidu. We have been monitoring and we will continue to monitor this situation closely. Thank you.

Muzhi Li - Mizuho Securities

Thank you. Regarding your marketing expenses, I know you don’t disclose the exact percentage of your different advertising or marketing channels, but can you run the revenue or sorry – can you rank the budget of your online or search allocations or your partners et cetera, so you can get the better picture of your exposure to both the impact of this merger as well as the other channels that you can diversify the exposure in the future?

Guangfu Cui

I’ll take the question and Mike if you want something to add later. So let’s look at the future of the business online and the plan to continue to invest aggressively online to our core customers optimistically. Some specialty all of our sales and marketing expense is based online, so we do very little offline marketing and among the online marketing effort, first one is general research, the second one is vertical search and coupon. We also consider a marketing expense although it is adopted from the revenue side, that we also view as an online marketing from internal management standpoint. So those are our major spending of our sales marketing dollars. Thank you

Muzhi Li - Mizuho Securities

Thank you and the last question is also regarding to the marketing expenses outlook, I see that you have increased the marketing expenses a lot year-over-year but once you have this alliances fully build out this a $0.10, would you see that the marketing expenses going into the fourth quarter or the next year going to be trending higher, lower any guidance or insight will be very helpful? Thank you

Mike Doyle

Yeah, so I think (inaudible) cooperation will have expenses associated with it as well. So the year-on-year growth in sales and marketing and the percentage of – sales and marketing percentage of revenue be depended upon how quickly if the mix shifts between channels. So, we don’t have any guidance to give there, yes. But you should assume that we will continue to be aggressive in acquiring customers online and continue to invest in online marketing.

Muzhi Li - Mizuho Securities

Okay. Thank you very much.

Mike Doyle

Thank you.

Operator

Our next question comes from Fawne Jiang. Ma’am, you may proceed.

Fawne Jiang - Brean Murray

Thank you for taking my follow-up question. Actually I have a follow-up regarding to your coupon business. You said your all coupon – group prices on the eLong platform, you also have the collaboration with Tencent. Just wonder what’s the off – like what’s the growth profile for that business went down, and also what’s the potential margin impact going forward?

Guangfu Cui

This is trickier question. So, if you recall that my first strategic initiative in my earnings release call, I always say that eLong want to offer more competitively priced products to our customers and group-by hotel fall into this category. And so therefore which is as very important initiative and real value creation for consumers. And we launched group-by hotel in the first quarter and expand offering, product offering in the second quarter. Customer’s response (inaudible) to be group-by product, so this is the segment we plan to continue investment behind. So right now the volume is still in material, we would disclose when it really getting the sizable become a sizable business. Thank you.

Fawne Jiang - Brean Murray

Thanks. Guangfu. Just a follow-up on the margin. It seems like the coupon – group by offerings seems to have relatively lower margins given the reach of the business. Just wonder what’s the potential impact on the margin going forward, if the volume is looking up?

Guangfu Cui

The margin is low, however, we don’t really stand like coupon at the end. We don’t spend (inaudible) on the group-by hotels and also we don’t really fully take charge of the booking from consumers. So basically consumers contact hotels directly for the booking, so we also don’t occur cost in that regard. So they view as – yeah, it is a lower-margin product, but a great consumer value that provides competitively price product. So we actually like the product very much.

Fawne Jiang - Brean Murray

Got it. Thank you very much.

Operator

(Operator Instructions). At this time, there are no further questions. I will now turn the call back to the eLong management team.

Guangfu Cui

I have no – the management team has no further comments, and we look forward to talking to you in the next earnings release call. Thank you. Thank you all.

Mike Doyle

Thank you.

Operator

That’s concludes today’s conference. Thank you for participating. You may now disconnect.

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