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Executives

Christopher Loughlin – CEO

Glen Ceremony – CFO

Analysts

Eric Martinuzzi – Craig Hallum

Jason Helfstein – Oppenheimer & Company

Naved Khan – Jefferies & Company

Edward Woo – Wedbush Securities

Justin Patterson – Morgan Keegan & Co

Frederick Moran – Benchmark

TravelZoo Inc. (TZOO) Q3 2011 Earnings Call October 20, 2011 11:00 AM ET

Operator

Good morning, everyone, and welcome to the Travelzoo’s Third Quarter 2011 Financial Results Conference Call. At this time, all participants have been placed in a listen-only mode, and the floor will be open for questions following the presentation. Today’s call is being recorded.

It is now my pleasure to turn the floor over to your host, Chris Loughlin, Travelzoo’s Chief Executive Officer. Sir, you may begin.

Christopher Loughlin

Thank you operator. Good morning, and thank you for joining us today for Travelzoo’s third quarter 2011 financial results conference call. I am Chris Loughlin, Chief Executive Officer. With me today is Glen Ceremony, the company’s Chief Financial Officer.

Glen will walk you through today’s format.

Glen Ceremony

Thank you Chris, and good morning, everyone. Before we begin our presentation, we would like to remind you that all statements made during this conference call and presented in our slides are not statements of historical facts constitute forward-looking statements, and are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Actual results could vary materially from those contained in the forward-looking statements materially.

Factors that could cause actual results to differ materially from those in the forward-looking statements are described in our Forms 10-K and 10-Q, and other periodic filings with the SEC. Please note that this call is being webcast from our Investor Relations’ website at www.travelzoo.com/earnings.

Please refer to our website for important information, including our earnings press release issued earlier this morning, along with the slides that accompany today’s prepared remarks. An archived recording of this conference call will be available on the Travelzoo Investor Relations’ website at www.travelzoo.com/ir, beginning approximately 90 minutes after the conclusion of this call.

For today’s format I will review our third quarter 2011 financial results, and then Chris will provide an update on our strategy. Thereafter we will conclude with a question-and-answer session.

Now, if you will please open our management presentation, which is available at www.travelzoo.com/earnings.

Turning to slide five, this slide provides you the key financial highlights for the quarter. We achieved record revenues of $38.7 million this quarter which is up 40% from the same period last year. This represents our fastest year-over-year revenue growth rate in five years. We also achieved earnings per share of $0.36 which is up 62% from $0.22 for the same period last year. In addition, we continued solid growth in new subscribers adding approximately 600,000 new subscribers.

On slide six, we look at revenue by segment. Revenue growth in North America was 32%, our highest quarterly growth rate in five years. In Europe, revenue growth was 65% year-over-year, and in local currency terms, we increased by 59%. We are encouraged by this continued acceleration of revenues in each segment.

Slide seven provides more detail on our operating income. Operating income for the company this quarter was $9.2 million; $7.8 million came from our North America business, while Europe contributed record profits of $1.4 million reaching over a year of profitability.

Operating income increased by over 60%, despite a slowdown on local deals in August and continued prudent investments in local deals. Our income tax expense was $3.3 million resulting in net income of $5.9 million.

Slide eight, illustrates the change in the structure of our cost of revenue resulting from the growing significance of our Local Deals format. On the left is a chart displaying the makeup of our cost of revenue. Starting from the left bar is our cost of revenue from last year which was before we had any significant Local Deals volume. Working to the right you see the addition of cost that represents some of the components needed to run Local Deals.

These include subscriber refunds, customer service and credit card processing. One change unique to this quarter is that we began recognizing the merchant portion of the credit card fees gross rather than netting them against revenue of the prior quarters.

As you can see on the chart to the right, despite these structural changes that have been impacted cost of revenue, our overall operating margin increased this quarter even while we continue to invest in local deals during a seasonally slower third quarter.

This is probably a good time to pause and reflect on the overall impact that Local Deals has had in our business, since we started it 12 months ago. In addition to the revenue growth one indicator here of the impact would be looking at our operating margins over time. If you calculate our 12 month trailing average operating margin ending at our third quarter a year ago and you compare it to the same trailing average end of this quarter excluding the Q1 Delaware settlements, you see that the average margin is going from 19% to 24% that’s 5 percentage point improvement in operating margin. This is why we are investing over the last 12 months in the Local Deals opportunity. This demonstrates that we are delivering on our long term goal to balance our top and bottom line growth.

Moving on to the rest of our expense base let’s turn to slide nine. This gives us more insight into operating expenses. North America and Europe operating expenses increased due to our investments in Local Deals. Yet despite these investments operating expenses as a percentage of revenue decreased for both North America and Europe.

Slide ten shows that our headcount increased from 343 last quarter to 357 this quarter. We tempered our rate of hiring due to our focus on the productivity of our existing headcount after a period of rapid headcount growth. We also cautiously hired this quarter given historically slower growth in our second half of the year. We do plan to continue hiring and focusing on productivity in order to invest in opportunities for future growth. As we grow Local Deals we want to improve both the top and bottom line so this will require continued vigilance.

Turning to slide 11, we take a look at our cash management. Our DSOs or Days Sales Outstanding decreased to 34 days in the third quarter compared to 40 days in the second quarter and improved by 15 days when compared to the third quarter of 2010. We ended the quarter with $32.4 million in cash and cash equivalents. This was down from prior quarter as a result of our announced repurchase of our common stock which was completed this quarter amounting to $15.1 million. We generated cash flows from our operating activities of $9.1 million which help to offset the impact of the repurchases.

On slide 12, we summarized the financial results for the quarter. We achieved record revenues with the fastest year-over-year growth rate in five years. We continue to deliver solid subscriber growth and we had record total operating income and record European profitability translating into strong earnings per share growth. We believe these results demonstrate our focus on growth and profitability.

Well, that completes the financial part of our presentation. So, now, Chris will cover highlights regarding Travelzoo’s growth strategy.

Christopher Loughlin

Thank you Glen. Turning to slide 14, we summarize the growth strategy which we continue to execute against. Along the X-axis, we’re growing the number of subscribers who engage with the Travelzoo brand. We continuously attract new subscribers through word of mouth and through advertising. We’re also reaching new subscribers through new medium such as the new iPhone app or the Travelzoo network.

Along the Y-axis, we’re also growing our revenue per subscriber. Local Deals has become a substantial driver of revenue per subscriber growth. As we turn on new markets become more productive in existing markets and extend our product into Getaways with a significant incremental revenue per subscriber gains.

Other important drivers of revenue per subscriber along the Y-axis include rate increases when our subscriber levels reach certain milestones in particular markets. Our search related products and of course sales team optimization.

Turning to slide 15, you can see that we’ve now reached 21.3 million subscribers in Europe and North America. In Q3, we added approximately 600,000 new subscribers. This is solid growth for a seasonally slower quarter. We are excited to see that we are attracting new subscribers as we introduce new content types. For example, one third of customers buying Local Deals who were not subscribers before.

Slide 16 highlights the Local Deals opportunity. If we start at the top of the chart, you can see we launched Local Deals only a year ago when we generated $800,000 in gross revenue. This quarter we generated $34 million in gross revenue. As a reminder this gross revenue with the amount paid to us by customers for the vouchers we present our revenues and income in the income statement on a net basis, which is gross revenues less the share we pay to merchants and certain reserves.

In Q3, our goal was primarily to drive productivity in existing large markets like Chicago, Miami, and London and launch in new attractive markets especially large international cities like Toronto and Frankfurt and to roll out Getaways across the world. By the end of Q3 we are offering Local Deals in 96 markets and publishing Getaways in all six countries.

You can see that our average deals published per week increased to one. So while we are making progress we are still some way off our goal of publishing two high quality deals per week. This is largely because newer markets still have relatively under developed sales activity as sales managers spend more time in market, we get more case studies and more of a reputation we are driving productivity gains.

Gross revenue per deal decreased to $25,000 as we published a larger percentage of deals in smaller markets and we ran a number of deals in nationwide full sale. Local Deals is now annualizing at more than a $135 million in gross revenue. If we look below we can see the opportunity ahead and this hasn’t changed very much. Assuming, we penetrate 150 markets and consistently published two high quality deals per week at $25,000 per deal, we could generate $360 million in gross revenues.

If we fast forward to 200 markets, and we assume revenue per deal of $37,500 based on an audience increase of approximately 50%, we see a business that could generate $780 million in gross revenues.

For Travelzoo, the pace at market launches and productivity in each market is restricted only by talent. If we onboard and train talented individuals, who can call on high quality businesses we’re able to scale a market relatively quickly.

Moving to slide 17, I would like to stress that our strategy really is focused on quality leadership. We believe that over the long run our subscribers will remaining engaged and we will continue to attract new high quality subscribers if we deliver outstanding high quality deals.

Our belief is content defines the audience, it is not the other way around, and because we publish high quality content we attract high quality audience. For example, in Local Deals we publish offers and award winning shows like Lion King and Billy Elliot and whittling start restaurants like Gordon Ramsay and luxurious spas such as those inside the Four Seasons and Ritz Carlton.

With Getaways we are publishing deals at hotels and resorts listed among Travel & Leisure’s World’s Best 500 Hotels and Resorts and the Condé Nast Gold List. With the new iPhone app we’ve already received a five star rating in the app store and we’re recognized last week as the Guardian’s consumer app of the week, actually just yesterday we were also picked up in Travel & Leisure as an app that you must have.

On slide 18, I want to remind you that Travelzoo Subscribers are true travel enthusiasts. To the left you can see a deal that we published at the Hudson Hotel in New York and on the right you can see who purchased it, this might be quite a surprise to some of you.

While a very large number of our Local Deals are purchased by locals who live in and around New York they are also purchased by people who might travel, and that’s possible because these are high quality deals if that was just a fish and chips shop around the corner of course it wouldn’t be attractive for tourists to book.

On slide 19, you can see this not just a domestic US phenomenon, we’re really producing global content. On the left you can see a purchase map for a Hawaiian spa deal, subscribers in Canada, the UK, Australia, Japan book that deal. On the right highlight a Paris hotel. We closed that deal from our Paris team and published it in six markets worldwide generating $300,000 in gross revenue for the hotel.

We’re able to produce such high quality content because we’ve established a high quality affluent travel already audience which is extremely desirable for these high quality travel and local businesses.

To conclude, slide 20 summarizes management’s focus for the remainder of 2011 and into 2012. We’ll continue to aggressively scale Local Deals in North America and Europe, while keeping our eye squarely focused on quality and productivity. We’ll continue to grow our subscriber base especially in Europe. As we scale we want to improve efficiency in operating margins we’ll continue to leverage our global opportunity with content and further improve earnings per share.

As a reminder Travelzoo’s consistent practice is not to provide guidance for future periods because of the dynamics of the industry. This concludes our prepared presentation, and I’ll turn back to operator now for the question and answer session.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] Our first question come from Eric Martinuzzi from Craig Hallum. Your line is open.

Eric Martinuzzi – Craig Hallum

Thanks for taking my question and congratulations on the strong growth. I’m wondering about this issue, and it’s my word it’s not yours, but cannibalization between the two sides of the business we don’t get a – you’ve done a nice job there in slide 16 talking about the growth rate and the quarterly gross revenue. But just if I use my own roughly 35% conversion ratio on the vouchers I see the good growth on the local side, but I also see a little bit coming out of the travel side. Could you talk about – have you seen any change in that hand off, specifically I would think Getaways would be a big impact. Have you seen more of that sort of coming out of travel and into local from your advertiser’s budgets?

Christopher Loughlin

Hi Eric, thanks very much for your question. So let me answer a little bit more on what’s happening on the organization, and then I’ll ask Glen to comment because we are obviously tracking that quite closely.

So first of all we’re really thinking about the shift rather than a cannibalization and it is important to make the distinction because of the shift, I mean it is really a very positive thing.

Shirley Tafoya’s team, she is the president of North America, is controlling Getaways 100%. These are the folks who are always selling media to hotels in the past, and now we take a decision, do we offer this property as a Getaway or do we offer as a hotel and straightforward advertising. In some cases you might get property would be more appropriate for a Getaway. What would make that more appropriate is its availability period might be for a longer extend rather than trying to target specific dates. It could also be that the property has luxurious spa and a restaurant they would like to include which normally wouldn’t have been included in the media side. So it’s an intentional shift. It’s from the same team and actually if you look at the business holistically it’s paying off and it’s a smart strategy.

Glen, would you like to comment any more on that from what you are seeing on the numbers side?

Glen Ceremony

Yeah, I think there are a lot of moving parts Eric. If you just take that voucher business and back into it you are kind of missing some of that, right? So, I would say, like Chris said, it’s another product that they have to offer to solve whatever the advertiser is trying to solve for and we are making that trade off and it’s actually working out, right? Don’t forget, we also have the search products in there that’s probably a tough comp from last quarter on now, and then I think maybe one thing that – this year airlines have consolidated, as you guys know, so that has some impact, not a dramatic impact, but definitely has some impact on our business year-over-year.

Eric Martinuzzi – Craig Hallum

Okay. And then, one other thing that caught my eye in the slide deck, and I’m referring to slide 10 where you talk about number of employees you have. There was actually a sequential decline in your North American headcount between Q2 and Q3. I know you are trying to drive both growth and profitability, but I would think given the opportunity that you’ve laid out especially in the Local Deals business that you would be adding people in all geographies, can you address that?

Christopher Loughlin

Yeah, sure. I mean we are adding people and if you look at the pace at which we added people at the beginning of the year it was very aggressive. And sometimes it doesn’t work out with certain individuals and for one reason or other you move on. So, we really, in Q3, we are focused on working with the folks who would come into business and really getting those folks productive, and I think you are starting to see that come through. We weren’t really in major hiring mode in that quarter. And we know, for example in Europe, Q4 is the slowest quarter of the year. So to be now hiring aggressively before Q4 might not be as prudent rather you want to be bringing the people in so they can start to operate at the beginning of the year. Glen, do you have any further comments on that.

Glen Ceremony

Yeah, honestly when we are looking at productivity as well like we talked about last quarter, we are looking at who is producing and not producing and then adding and – if someone is not producing that wouldn’t last as well. So, it's kind of balancing those two factors. So I wouldn’t take that…

Eric Martinuzzi – Craig Hallum

Any element of like a voluntary attrition due to the competitive nature of this market?

Glen Ceremony

No, not that we’ve seen, no. I think it’s just – that’s focusing on making sure everyone is productive and then cautiously adding the right talent. So that slight decrease of couple of heads – that’s the overall business too. So, it's not necessarily…

Christopher Loughlin

Yeah. And what I would really like to point out here Eric, anyone can go and get a deal at a – I mentioned on the call, a fish and chip shop, but if you want to go and get a deal at Gordon Ramsay, Marco Pierre White, The Four Seasons you really have to have sophisticated individuals who can talk intelligently to these businesses. We are not a shop of tens of thousands of people calling in and getting any deal, you know, we really are folks on quality. So, you can find out by interviewing people and putting them through assessment centers whether an individual has got it or not, but really you don’t know until one or two months in whether they have got it or not. The good news is that we have a phenomenal team here, and I think as this industry starts to evolve you see the DNA that Travelzoo has got when it comes to quality deals publishing and we have been doing this for ten years. We know what we are doing and I'm really excited about the talent we are now seeing coming in through the door.

Eric Martinuzzi – Craig Hallum

Okay, thank you.

Operator

Our next question comes from Jason Helfstein of Oppenheimer & Company. Your line is open.

Jason Helfstein - Oppenheimer & Company

Thanks. Two questions. One, Chris, can you just give us, I mean I know you don’t give guidance, but maybe just a general outlook for the sector based on your discussion with vendors. And then secondly, it is interesting with Groupons it seems pending IPO there is just more and more thought about the value of deals into different kinds of businesses, they were different things and how important is it for the provider of the deal to help curate that versus just let the deal happen. There is plenty of examples where the deals didn’t work for the vendor because they weren’t done right or they offered too many. I'm just wondering to the extent that you tend to curate your deals much more as opposed to kind of just taking anybody who walks in the door and saying, well, just sell as many as we can. That ultimately provides more value, and if you think you’ve seen some benefit from other vendors becoming disgruntled with the Groupons and particularly just specifically the restaurant side we are seeing, much less restaurants with Groupons and how that’s benefitting you. Thanks.

Christopher Loughlin

Thank you. So the outlook on the second look. I think this is obviously it’s an early stage. It's a very early stage for this industry. It's going well from what we see, very well. And it’s a natural extension of what we are already doing. I mean Travelzoo was publishing restaurant deals four five years ago, but we would put them through the likes of, I don’t know, Toptable in the UK or Lasoo.com (ph).

Jason Helfstein - Oppenheimer & Company

Sorry, your outlook for the travel specifically so not for the deal side.

Christopher Loughlin

Oh I am sorry, okay. For the travel, I mean, yes, okay. So, let's see what happens with oil. Now that Libya seems to be coming back, the Libya situation, so oil looks like it might remain relatively stable. You have got the dollar influencing – I mean so I think it's going to be relatively high priced airline seats consolidation on the hotel side. I think you are going to see more occupancy which is good for Travelzoo, so there will be more deals. I don’t have visibility really beyond the end of the year. I mean you could start to see as the Europeans sort out their problems. Maybe we are in a very different situation next spring.

Overall, I don’t see that it's going to get much better and I think maybe even – maybe even in Q2 Q3 next year there will be a lot of occupancy which show premium deals for us. On the second point about the types of deals, we are very selective about the companies we work with and we have worked really hard to build this audience up. Think about, Tranvelzoo publishes cruise deals, what type of customer goes on a cruise, and that sort of gives you the demographic makeup of the Travelzoo subscriber. So we are not dealing necessarily with younger folks who are just coming out of college and so forth, we are dealing with people who are affluent sophisticated travelers, 87% have got passports and they have higher expectations. So when our customers walk into restaurants and spas, generally the feedback we get is that the restaurants are very happy, most of the restaurants we have worked with want to work with us again. And yes we do sit there and think about how come the restaurant make money.

If you look at last quarter we were selected by Cisco (ph) Eye Care to be their partner, and they now walk into restaurants and say if you are going to do a Local Deal work with Travelzoo because of the audience and because they think about how you can money, and that’s going well. So, we could run more deals, many-many more deals but we don’t. I think the other thing is as I said in the presentation, we are publishing right now one deal a week. So, well, we could publish seven deals a week but we are being much more selective in just publishing that one and we believe we get results from that. I can’t really comment on the other companies, some of them are doing a good job and some aren’t doing such a good job as far as quality goes.

Jason Helfstein - Oppenheimer & Company

Thanks.

Christopher Loughlin

Thanks you.

Operator

Our next question comes from Naved Khan of Jefferies & Company, your line is open.

Naved Khan – Jefferies & Company

Thanks for taking the question. Just a few questions. Chris, can you talk about the performance of the Getaways product during the quarter?

Christopher Loughlin

Yes, the Getaways product is a flying success. It's being managed by an awesome team. We had in Q2 a little bit of confusion as we introduced the product, defining the product, it's high quality hotels with outstanding restaurants and spas and it's going firmly well. I mean we published - I’m actually standing in London right now and the team here were very excited two days ago. They published Conde Nast Gold List Hotel in Ireland and I think it sold a 1000 vouchers within 24 hours. So, it's a hot product, it's going well and we are still rolling it out.

Naved Khan – Jefferies & Company

Can you tell us how many markets you have rolled out Getaways?

Christopher Loughlin

No, I don’t, because they are destinations. I mean I could come back to you and let you know how many Getaways we ran, I don’t think they are like that.

Naved Khan – Jefferies & Company

Okay. And then also in the last quarter I think Groupon launched Getaways product with Expedia and I think Priceline is also out with its own product. Are you seeing any kind of impact from that or is it too early?

Christopher Loughlin

No, look rising tide lifts all boats, right? There were some companies out there that are also doing it beyond the ones you mentioned. What we see is because we focus on a certain segment we have a high quality higher end slightly older demographic. We are able to work with properties that are skewing towards five star bracket and we are not seeing any negative impact to other people in the printing industry.

The one thing you got to remember about this whole business, there are still only 365 days of the year, and that means it doesn’t matter whether you are Groupon, LivingSocial, TravelZoo, everyone can only send one email to a subscriber today. So, that’s really – there is a natural limitation on the consumer end and there are tens and hundreds of thousands of properties that each of these different companies could work with. So, certainly not seeing any impact from competition there.

Naved Khan – Jefferies & Company

Okay. And then, you also mentioned in your prepared remarks that roughly one-third of the deals have been bought by new subscribers. So wouldn’t that make sense for you to go out and acquire new subscribers more aggressively?

Christopher Loughlin

Well, I mean, yes, we – but you can drive the entire business to a loss making situation and you can spend gazillions of marketing if you want. We rather decided to manage the business prudently and as we see productivity per person in our business coming up and overall productivity improving then that would mean that we have more content, which means then we would go ahead and push out for more subscribers.

In some cases it doesn’t help you if you’ve got more subscribers because a spa might only have four beds. So, if I add another million subscribers it doesn’t help me because I already sell the spa out with a thousand vouchers.

So, you know, we have over 21 million subscribers right now, we are not addressing all of them and we have got a sales force coming in to help address them. I think probably the better thing to do right now is to get those sales force moving and address the existing subscribers and then we will start to speed up on subscriber acquisition again.

Naved Khan – Jefferies & Company

Okay. And then the last question from me. Based on what you said earlier, is it fair to assume then in the core publishing business the revenues were down, low single digits year-on-year.

Christopher Loughlin

Sorry, Glen will answer that question. I’m not quite sure what the question was. Maybe you could repeat it for Glen.

Glen Ceremony

Yeah, could you repeat the question?

Naved Khan – Jefferies & Company

Yeah. So based on what was said earlier on the call, is it fair to assume that in the core publishing business revenues were down low single digits year-on-year? I’m just trying to back into the core where it says the local businesses and what the revenue trends are.

Glen Ceremony

There are a few things going on in there, so don’t forget our search products. I mean they are part of our entire business and kind of comingled with everything, but I can’t say that was a bit of a tough comp compared to last year from a growth rate perspective.

But, yeah, the impact is two-fold to that growth rate that you are probably backing into. That would be – some of the airline consolidation this quarter and then just the shift. So, we think – when you zoom back out, when you see our operating margin going up and we are in a new business, we are investing in that that’s – we are seeing the day-to-day tradeoffs that we are making that makes sense on the Getaway tradeoff.

Naved Khan – Jefferies & Company

Okay, great.

Christopher Loughlin

You know, we are really – maybe the analyst community likes to think of them as two separate businesses. But this is one business as far as we are concerned, and I think it's really important to know that, you know, Shirley Tafoya’s team which you would call in the classical call they are running Getaways. And Steven Dunk’s team who is in what you would also call a classical call, they are running Getaways.

So, I think it's really important to understand that we are very happy with what we are doing here. It's not that we’re concerned about it, of course we can always do better, we want to do better and I’m certain that we will. But it's intentional and it's positive.

Naved Khan – Jefferies & Company

Thanks that’s helpful and congrats on the quarter.

Christopher Loughlin

Thank you very much.

Operator

Our next question comes from Edward Woo of Wedbush Securities. Your line is open.

Edward Woo – Wedbush Securities

Yeah, good growth guys. I wanted to touch back on the outlook for the travel sector. Did you say that you haven’t really seen any impact either in the US or in Europe from some of the economic news that we saw over the summer. And also was there any impact on FX now that the euro has weakened significantly over the past couple of months?

Christopher Loughlin

On the first point Ed, no I didn’t comment on what we are seeing since the summer. I think I was responding to what the outlook looks like from here on. So would you like me to talk about what I thought in the summer or would you like me to – I mean (inaudible) I wasn’t…

Edward Woo – Wedbush Securities

Sure, yeah. We’ve got a lot of news out of Europe that there is risk on the economy. We had the euro weaken significantly, I was wondering do you see any of that impact on your European business as well as possible impact on the much weaker euro on your financials?

Christopher Loughlin

What was interesting about the summer, I did a road trip around Europe this summer. I can tell you Germany was absolutely on fire I mean it just – the economy is booming in the summer. It seems to have slowed down a little bit more recently. But it's still hot. Interestingly Paris, I met with Paris hoteliers and they told me they had one of the best summers they had had in five years. So whether that continues I don’t know.

Of course for our business it would be problematic now if the euro and pound really lost value. Because we report in US dollars. I think that would be a concern. It seems in the last week or so it stabilized. But, there was a point a month ago where I was concerned that we might see continued devaluation in these currencies. So I think that that’s something to think about. At the moment it seems we are sitting around 1.30 and 1.57 against the pound as against the dollar, but that obviously has an impact.

The one benefit of course is if that does happen it means that we could invest in Europe because we are holding in US dollars and actually it become slightly, yeah, slightly beneficial there.

Edward Woo – Wedbush Securities

In previous calls you talked about the profitability by country. I know that you had a very good quarter overall in Europe. Would you say that it was pretty much across the board in all regions?

Christopher Loughlin

Well, yeah, we haven’t really broken it down in this presentation. But the UK is the driving engine of our European business. Germany is another large market and France and Spain are still in development, and that’s been relatively consistent on message for the last year or so.

Edward Woo – Wedbush Securities

Great. Then the other question I have is, have you noticed any change in commission rates on local deals, either on an overall basis because of different product mix or within specific categories such as restaurant takes or spa takes.

Christopher Loughlin

We haven’t seen any significant changes. I mean obviously within hospitality we are trading at a different level to the more local area. So the Getaways is traded at different level. But in the restaurant spa area we haven’t seen any significant changes.

Edward Woo – Wedbush Securities

Okay, thank you and good luck.

Christopher Loughlin

Thanks Ed.

Operator

Our next question comes from Justin Patterson of Morgan Keegan your line is open.

Justin Patterson – Morgan Keegan & Co

Great, thanks for taking my questions. First, if I just look at the number for gross revenues for this period as well as the numbers you disclosed for the July and August period, it looks like you had quite a bit of an acceleration in September, just wondered what the factor behind that was.

Christopher Loughlin

The acceleration in September was a really case where the merchants that we worked around the city in New York and in kind of the early summer restaurants were packed, then restaurants weren’t packed towards the end of the quarter. The other thing is you had July 4th weekend, the beginning, of course that caused a bit of a slow down and then we saw a pickup towards the end. The guys put in a promotion as well as sales incentives and that also created some emphasis to get moving. So, but it was largely the fact that the nice restaurants were full and then they weren’t.

Justin Patterson – Morgan Keegan & Co

Got it. Then, Chris, earlier you had made a comment about the market being constrained by 365 days of the year, yet what your competitors LivingSocial, Groupon and some of the others are doing they are now instant deals that provide I guess real time deals that are very time sensitive. So, in that case you are still date constrained but you actually have multiple more deals heading per day. How do you feel about sticking with your one deal per week or two deals per week strategy ideally over time in this case.

Christopher Loughlin

If you look at our average gross revenue per deal and then you compare it to some of the others in the space we’re off the charts, right. So it seems that even though they might produce more deals per week we generate more revenue per deal on average. So, less is more in that case. With respect to instant deals many of our deals are instant. We actually had a nice email from a subscriber. He was in Orlando. He checked out of one hotel then he checked in with another and then he went to a restaurant and so forth, and he did it all using our new iPhone app. So we are already in that game.

The interesting thing around instant or the idea that you can publish thousands and thousands of deals is, well how many vouchers could you really sell. If you don’t get that out in front of a large audience how many could you really sell. I think the volumes are going to be relatively low. So, yes, if you don’t require the same level of the sales and production activity to curate those instant deals it is rather more self servicing. It might be quite interesting, but otherwise the volumes would be relatively small and you have to think about push media versus pull media, I mean they are very different, and all of the companies operating in the space right now are stimulating demand and pushing, and that’s what creating the volume. And you need volume in order to drive profitability in this game. So it’s interesting, of course who are looking at it, but we always like to look at businesses and we like to build profitable businesses rather than cool ideas.

Justin Patterson – Morgan Keegan & Co

Right, and then your comment about gross revenue per deal, it is generally higher, but if I look at the trend it’s then declining pretty meaningfully on a sequential basis as we go into more and more markets. So there is some offset as you get frequency up in place. So now that frequency is up one deal per week across 96 markets, I guess I'm just kind of confused as to how you expect gross revenue per deal to stay at about 25,000 per deal as you look to get to 150 or even 200 markets.

Christopher Loughlin

Well, I don’t think we are publishing nearly as many Getaways as we could publish, and that of course contributes to the gross revenue per deal. We have some – I mean I’m sure one hotel deal in Paris that was actually on direct basis but that generated $300,000 that brings our average back up. We are also not very active in some of these larger markets yet. Boston is a market that we still have to get our hands around. We weren’t terribly focused on Chicago. Of course the gross revenue might fluctuate higher or lower, but I can definitely see it clear past to being at that level.

Justin Patterson – Morgan Keegan & Co

Got it, and you are not that concerned about Groupon or some of the others in the space, I mean Groupon does have 115 million at this point, and there is more than just fish and chips deal. As I look at the Groupon Getaways site, those are all very top tier properties and even the restaurant packages they have in place, I’m kind of curious how the merchant discussion is going.

Christopher Loughlin

No, it wasn’t – I wasn’t insinuating that Groupon has fish and chip deals. I mean I'm just pointing out that we don’t have fish and chip deals. When you go to the newsstand there are hundred magazines on the newsstand. And on to the far right hand you’ve got the Economist and Vogue and Conde Nast Traveler, to the far left end you’ve got other publications. We want to be the Economist Vogue Conde Nast Traveler that’s where we are headed, and there is plenty of room for plenty of other magazines on the stand. In the long run people will select a high quality publication that fits their personality and their needs, and they may indeed buy one or two magazines off the shelf, and that’s fine by us too.

The biggest threat to our business I think is ourselves. If we don’t maintain our quality standards and even sharpen and get better then that’s where we will fall down. But just because our competitor does a good job too doesn’t mean that we become irrelevant somehow.

Justin Patterson – Morgan Keegan & Co

Got it.

Christopher Loughlin

Yeah. Thank you very much.

Operator

Our final question comes from Frederick Moran of Benchmark. Your line is open.

Frederick Moran – Benchmark

Thank you. Good morning Chris and Glen. If you don’t mind, could we go over the chart on figure eight that talks about the gross profit margin and just help us understand why – is it some kind of reclassification as noted under the chart or is it a meaningful uptick in subscriber refund and credit card processing that hurt gross profit margins, and maybe explain why exactly subscriber refunds happen. And then secondly, the marketing budget sink a bit lower than what was expected, is that all normalization post the second quarter advertising campaign or is it more less headcount growth, how do we look at marketing on a normalized basis.

Christopher Loughlin

Thank you Fred I will let Glen take this question.

Glen Ceremony

Yeah. First, your question on subscriber refund. So, we do have those for various reasons, right, and the prior periods had been reclass conform, we had those certain subscriber refunds in the sales and marketing line. We are just making sure that’s visible. It’s a direct impact of a portion of our business, right.

Regarding your uptick question, I would have to say there was this quarter a bit of an uptick on that, I think on the subscriber refunds we have a refund policy, right, that’s fairly short. But if there is significant issues with a merchant, like if there is a merchant that goes out of business or something like that, right, then we’re going to stand behind our subscribers, we’re not going to let them really be damaged for a severe situation. We had a couple of merchants in that class this quarter that we felt that we needed to care of. So it’s a combination of both but it should be conformed there for you.

Frederick Moran – Benchmark

What about the uptick in the credit card processing, why did that occur?

Christopher Loughlin

Because we sold more.

Glen Ceremony

Most of that is volume. But, I would say there is a – so the other point is the growth, right. So, the merchant portion of the credit card fees used to be netted against revenue in prior periods and now it’s a reflected gross here.

Frederick Moran – Benchmark

Okay, that’s a great clarification. Thank you. On the sales expense, was it – the second quarter advertising campaign disappeared accounted for the entire drop in sales expense or was there anything else going on? Should we use this third quarter as kind of a quarterly base rate for sales expense?

Glen Ceremony

Yeah, I mean that’s the biggest drop. I would say going into the second half of the year we were cautious on that spend. I would say from a perspective of the second half of the year you might want to look at it as normal. But you are looking at it on a sequential basis now there is more reduction of spent in addition to the TV spent that you referred to.

Frederick Moran – Benchmark

Okay. And then for Chris, it seems there is a pattern emerging of a lot of deals near the end of the quarter or the end of the month. It touched upon a little bit of the seasonality that happened this last quarter. Can you – is there any effort made by the sales force perhaps, to push a lot at the end of the quarter and are there any way to avoid what seems like an early quarter or early month slow down that seems to recur?

Christopher Loughlin

Well, what I would say is, yes, of course that comes through tighter management as those teams become more productive. That isn’t yet still a year old, which means half of the people have only been there for six months, and a quarter of the people have never been there for three months. That hopefully comes with time and it’s something that we continue to work on. But, the guys are doing a tremendous job and they are growing the business which is now one year old.

Frederick Moran – Benchmark

Okay and then –

Christopher Loughlin

I mean that’s – it’s really important to remember that – that business is one year old. Most people seem to think it’s been around for very long time. So I'm very pleased with what they are doing, and, yeah, it’s going to become more mature in the next two to three years.

Frederick Moran – Benchmark

Okay. And then on the number of market, when do you think you will actually have enough time to determine meaning, I mean a meaningful history with middle market activity to determine whether it’s a warrant going into a 150 to 200 market total. When we see certain middle markets active for a while and then they disappear off the sight why does that happen and should we expect it will come back at some point?

Christopher Loughlin

Well, there are two reasons why that happen. In one case it might be that we find a sales person who is able to develop a market. We did that in Des Moines last year and we moved the person down to Los Angeles and that was a great decision. The second is we have been publishing entertainment content for a very long time, again since 2006 or 2007. So what we did when we launched Local Deals is we decided not to publish entertainment in our news flash product we rather published it in our Local Deals product. So you see those deals come out and you will see that they are direct purchase deals, but we would have been publishing those deals in news flash anyway. So you will see that come up on the site, but that doesn’t mean that you’ve got any Local Deals sales coverage and you might see that there is another restaurant deals or spa deals and more Sop de Solle (ph) going into Edmonton, Canada or something like that. That’s all being controlled from the central location. So those are the two reasons why it happens. As we bring on more people we will obviously allocate them to the most productive markets.

Frederick Moran – Benchmark

So how much history do you need in the market, three months, six months, to determine whether you will keep that market open and – you know, I'm just trying to get a general sense. Should we expect that half a year from now we will know whether 150 markets weren’t being active and –

Christopher Loughlin

Yeah. I don’t really know. I mean it could be a very short period of time. It could be a very long time. It really depends on how talented the individual is and how stable the team can become. I mean essentially think about those regions in these countries, it’s not like we are just starting one business and that’s it. We have already started six different countries and within a market like United States you are starting almost four different businesses given the regional territory split. I think it was rather fluid for the next maybe for the next year or so. It’s fluid, but as you can see from the results we are focused on maximizing our opportunity, and I really couldn’t put a point on it and say this is the answer just that we are focusing on maximum productivity.

We started tons of businesses, I started the U.K. business, this is nothing new. It takes you probably two to three years to really get that groove where you could have very simple predictable answers. But when you are starting a business it is quite different and we are making tremendous progress, and markets like Los Angeles is very stable now. Could I have predicted that Los Angeles will be more stable than Chicago a year down the line, no I couldn’t, but it is and I know why now.

Frederick Moran – Benchmark

Thanks Chris, I appreciate it.

Christopher Loughlin

Okay, thank you. Thank you very much Fred.

Operator

Okay I will turn back now to Mr. Loughlin.

Christopher Loughlin

Ladies and gentlemen thank you for your support. We look forward to speaking with you again next quarter. Have a nice day. Thank you.

Operator

Thank you ladies and gentleman. This concludes today’s teleconference. You may now disconnect your lines at this time and have a nice day!

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