Executives
Effie Han - IR
Henrik Kjellberg - Chairman
Guangfu Cui - CEO
Chris Chan - CFO
Analysts
Catherine Liu - Citigroup
Jason Johnson – AuroraInvestments
Chun Ming Zhao -Susquehanna International Group
Reid Abden – BrendonMadoff
Vik Mehta - J Goldman
 |
eLong, Inc. (LONG) Q3 2007 Earnings Call November 13, 2007 7:00 PM ET
Operator
Welcome to the eLong conference call. (OperatorInstructions) Now I would like to handthe call over to Miss. Effie Han. Ms. Han, please go ahead.
Effie Han
Hello everyone. Thankyou for joining eLong's third quarter 2007 conference call. Today HenrikKjellberg, Chairman of the Board, will make some remarks about the quarterfollowed by Chris Chan, our CFO, who will provide greater details on ourfinancial results. Henrik will also introduce our new CEO, Guangfu Cui, whowill make some brief comments. Following their prepared remarks, Henrik andChris will be available to take your questions.
Before the management presentations, please allow me to readour Safe Harborstatement. During this conference call, representatives of the company willmake forward-looking statements. These statements are based upon management'scurrent views and expectations with respect to future events and are not aguarantee of future performance.
Furthermore these statements are, by their nature, subjectto a number of risks and uncertainties that could cause actual performance andresults to differ materially from those discussed in the forward-lookingstatements, as a result of a number of factors. eLong undertakes no obligationto publicly update any forward-looking statements whether as a result of newinformation, future events or otherwise.
Please refer to eLong's filings with the SEC including itsForm 20-F as well as the risk factors described in our Form 6-K, which will befiled with the SEC in connection with our press release and this conferencecall for a discussion of the important factors that could affect future results.
I will now turn the call over to Chairman of the BoardHenrik Kjellberg.
Henrik Kjellberg
M goi, and thank you for being on this call. For those ofyou who follow these calls, it will feel a bit like a repeat of last quarter'scall, although if you listen carefully you will trace more optimism in my tonethan in the previous two quarters.
Since we last spoke, our team has been hard at work andwhile the results have not improved this quarter, we see much room forimprovement to turn eLong around. We realize this will take some time as thereare no quick fixes to the various challenges that we face, but we're committedto the task and I believe we are right on track.
I do believe, however, that we have made some improvements aftera review of our company and that we are laying a new foundation at eLong, onethat will yield great results over the long term.
I would like to update you on our progress in our key areasof focus. First, the management team. We are delighted to have hired our newCEO, Guangfu Cui, who has extensive experience of operating consumer businessesfor multinational corporations in China, including Proctor & Gamble andFedEx Kinko's. I have had the pleasure of working with Guangfu over the pastweeks and I have been increasingly impressed with his ability to grasp thebusiness. He has already had a big impact on the team and on the business andit's with a lot of confidence that I have handed the business over to him.
We are also very pleased to have added a new CTO, Ken Liao,who joins us from Cisco and a new VP of Operations, Jenny Watson, who joins usfrom Expedia and Hotels.com and brings extensive experience in call centeroperations to the team.
Secondly, our back end platform. We have concluded a reviewof our systems and will start introducing new technology during the course of2008. Importantly, we'll continue to implement enhancements to the existingplatform to continue improving the user experience in the interim and we hopeto tell you more about our infrastructure developments in the next quarter.
Thirdly, we are relentless in elevating our call centerperformance. We have introduced peak season planning to better match ourcontact center staffing with expected call volumes and are implementing anumber of other very basic but extremely meaningful improvements to the callcenter. We believe that over the next six to 12 months we will see significantdifference in terms of quality and efficiency on our call center.
Lastly, we continue to refine our sales and marketingstrategy.
Going forward, I believe these four themes will remain ourkey improvement areas and we look forward to updating you on our progress. Now,it is with great pleasure I introduce you to our new CEO Guangfu Cui for some briefremarks.
Guangfu Cui
Thank you, Henrik. Hello, everyone. Thank you for attendingtoday. I am very delighted to be part of the eLong team. I would like to take amoment to share my thoughts on the business and the priorities I haveidentified over the past month.
First things first -- I believe in building a culture basedon people, service and purpose which is based on taking care of our people sothat they can take better care of our customers; a philosophy that willgenerate returns over the long term.
Second, we will continue our effort to build our managementteam, not only at the VP level but also at the director and manager levels.
Third, we will focus on enhancing our customers’experiences. We will focus on the fundamentals. We will fix the base businessfirst with a heavy emphasis on execution and platform enhancements, especiallyin the call center.
Our sales and marketing approach will more proactivelytarget our current customer base where we have emphasized our efforts onacquiring new customers, an important strategy with the rapid growth of China'stravel market. It is also critical that we earn the loyalty of our existingcustomers. As Henrik has mentioned, sales and marketing investment is a mainarea of focus for us and we intend to be creative in giving our customerscompelling reasons to continue to transact with us. We have a lot of work aheadof us but I am confident that with a continuous and relentless focus onexecution, we will see improved results.
Thank you very much. Now I would like to hand it to Chris.
Chris Chan
Thank you, Guangfu.Let me give you an overview of our third quarter results starting with ourstatement of operations, followed by our balance sheet. Our third quarter totalgross revenues were RMB 83.9 million, an increase of 12% year over year. Themix of revenue from our core travel business declined slightly over the prioryear to 96% of total revenue. Gross revenue from hotel commissions totaled RMB 64.4million, a year-over-year increase of 12% mainly due to higher room volumes.Hotel room nights booked through eLong totaled 1.009 million in the thirdquarter, up 13% from 893,000 inthe corresponding period a year ago.
Hotel commissions per room night were RMB 63.8, which isslightly lower than the same period last year of RMB 64.3. Our hotel commissionrate of 15% remains unchanged from the same period a year ago. Our thirdquarter 2007 average daily rate of RMB 416 was slightly lower than RMB 421 in the same period last year.
Gross revenue from air ticketing during the third quarterwas RMB 15.6 million, a year-over-year increase of 41%. The air segment was 370,000an increase of 36% over the prior year period. Commissions earned per airticket in the third quarter were RMB 42, up slightly from RMB 41 in the third quarter last year. Theaverage ticket price was RMB 891 as compared to RMB 867 in the third quarter of 2006 whilethe average commission rate in the third quarter was unchanged year on year at4.7%.
Other travel revenue in the third quarter of 2007 was RMB 0.9million, a year-over-year decrease of 77% from RMB 3.9 million. The year-over-yeardecrease was mostly due to the full quarterly effect of the vacation packagesuspension and a one-time adjustment of shared revenue from Expedia last year. Non-travelrevenue accounted for 4% of total revenue in the third quarter and consistedmainly of non-travel online advertising on our website.
Let me point out that we start from this quarter onwards toreport revenues net of business tax and surcharges. We have adjusted thestatement of operations accordingly. The effect is a reclassification ofbusiness tax and surcharges from operating expenses to a reduction of grossrevenues. There will be restated statements of operations on eLong's investor relationswebsite after the earnings call, for your convenience.
Gross margin in the third quarter was 74%, down over 200basis points from 76% in the same quarter last year, due to a higher mix oflower margin air revenue.
Service development, sales and marketing and general andadministrative expenses together were RMB 67.3 million, a year-over-yearincrease of 31% from RMB 51.4 million, mainly because of higher sales andmarketing and consulting expenses. The increased expense in sales and marketingwas due to a higher advertising and promotions spending, as well as increasedsales commissions.
In the third quarter, we also incurred approximately RMB 7million in consulting expense as part of our effort to improve operations andcustomer service. Without this one-time expense, the Q3 general andadministrative expense would have been RMB 11.3 million, or 14% of net revenue.
Let me now make a few comments on our balance sheet. As of September 30th, 2007 the company'scash and cash equivalents balance was $158 million. We intend to continue touse our cash balance to enhance our organic growth and consider strategicacquisitions in the future.
During the third quarter, we had capital expenditures of RMB4.8 million compared with RMB 5.7 million in 2006. This amount mainly paid fortechnology and infrastructure investments, including increased server capacityand other hardware and software purchases.
Finally, let me share with you our business outlook for thefourth quarter of 2007. eLong expects total net revenues for the fourth quarterof 2007 to be within the range of RMB 73 million to RMB 80 million, an increaseof 12% to 22% from the fourth quarter of 2006.
This concludes the financial review. Henrik and I will lookforward to any questions you may have. Operator, if you would now open the callfor questions.
Question-and-AnswerSession
Operator
Your first question comes from Catherine Liu - Citigroup.
Catherine Liu -Citigroup
On last quarter's call you mentioned that the review phaseof the turnaround plan would conclude at the end of August and that somechanges will be implemented thereafter. Now that the consulting review phasehas been completed, can you please share with us some of the findings from thisconsultation and what, if any, changes have been implemented?
My second question is on your sales and marketing strategy.You mentioned on the call that you would refine your strategy and moreproactively target your existing customers. Could you elaborate on what thestrategy will be going forward? Thank you.
Chris Chan
Catherine, this isChris. Could you repeat your first question please?
Catherine Liu -Citigroup
My first question ison some of the findings of the consultation that I understand was completed atthe end of August. What were some of the findings and what, if any, changeshave been implemented so far?
Henrik Kjellberg
Hi, Catherine. Giventhat I started the work I will start the question and then I will hand it overto Guangfu. The findings were largely in line with let's call it oursuspicions, which was that the call center needs a fundamental upgrade both interms of how we recruit, retain and train people and also the systems thatwould support that call center. So those were the main findings of the companyand we asked the consultancy companies to very much focus on the operationalside. That's also what they did.
They have given us a detailed plan, which we are followingand implementing a number of changes on, which include the planning, as Imentioned earlier, but also will include things going forward which we are nowevaluating which relate to the systems, the back end that supports the callcenter going forward.
I think with Guangfu coming on board I would like to havehim comment on some of the things that he has seen as well, which I believe arevery much in line with the findings of the consultancy group.
Guangfu Cui
Yes I would like tojust elaborate on what Henrik has said. The findings are pretty similar and nowit is really about the actions we are going to take going forward. There areseveral actions we are taking to really make sure that we have a balancedapproach toward the new customer acquisition and the loyalty of existingcustomers.
One thing we have adopted is to make a triple points awardto the existing customers if they book online for our hotel rooms. This is aneffort that we are going to support our existing customers for more loyaltypoints.
Secondly, we are really working on the fundamentals,basically back to the point of we've taken an initiative we call know who I amand save my time. Basically we want to know who the customer is and how to savetheir time when they transact with our call centers and websites.
Just give you a concrete sense of it, we have worked toshorten our call center scripts from 900 words to 470 and it's been implemented.The customers should see the immediate change in call center efficiency and inhow eLong makes it easy for them to do business with us.
Thank you.
Operator
Your next question comes from Jason Johnson - AuroraInvestments.
Jason Johnson - Aurora Investments
Chris, could you break down your accounts receivable? Inoticed that you have a $40 million accounts receivable. What is the source ofthis accounts receivable?
Chris Chan
It's mostly an account settlement receivable with hotels soI think it's between 70% to 75% from hotels and the rest are mainly from creditcard settlements with banks and some air ticketing receivables. We do use someticketing agents and we use a separate delivery company to collect our cash, sothose would be the main components.
Jason Johnson - Aurora Investments
Do you have a percentage of how much is from the hotelcommissions?
Chris Chan
I just said 70% to75% is for hotel.
Jason Johnson - Aurora Investments
75 okay. Well, lastweek at Ctrip had said at the analyst conference call -- I asked the samequestion. They have about $290 million of accounts receivable and I asked thesame question. They told me that some of the credit card payments for airlineticketing is booked as accounts receivable. Do you do that in eLong?
Chris Chan
I think it would not be receivable from the airlines. Itwould be receivable from banks because there is some lead time settlement,settling the credit card payment.
Operator
Your next question comes from Chun Ming Zhao - SusquehannaInternational Group.
Chun Ming Zhao -Susquehanna International Group
We saw there is an increase in your sales and marketing in theG&A expense. May we know more details and will this trend continue goingforward in the next quarters?
The second question is, would you please give us more coloron your upcoming quarters like revenue and the competition figures? Thank you.
Henrik Kjellberg
I'll take it and then I'll also hand over to Guangfu on theforward-looking statements. On the sales and marketing, we did see an increasein spend. A large part of this relates to the fact that we wanted to be moreaggressive and try new channels of marketing whilst we still had some of theold channels that we've been relying upon in the past working for us. So wehave seen a spike in sales and marketing and we are aware of this.
We do think that spike is likely to continue over the next,I would say let's call it the short to medium term, but over time we do expectthat to decrease by a bit but we haven't quantified that number yet. The reasonfor that, as Guangfu will explain later, is that we are trying to very muchre-charter the way we do sales and marketing, which has for a long time been reliantupon handing out cards in physical places in China.
On the G&A, that's a one-time event. We recruited aconsultancy firm to help us out, which brought the costs up. We were in a statewhere the company was in a drastic need for a turnaround and we judged it to bea judicious use of funds to help the company get kick started on a new processto really turn eLong around, so that is a one-time expense.
I've given you some indication on the sales and marketinggoing forward, but I would like Guangfu also to share his view on really whatour plans on the sales and marketing are because I do believe those are of someinterest to the investors at large.
Guangfu Cui
As I have mentioned, my strategy is to take a balancedapproach toward the existing customer base and acquiring new customers. In thepast, we have been relying on the traditional channel of handing out the cardsin the airports, the railway stations and bus stations, for example, to acquirenew customers which is very costly and it starts to reach a point that thecustomers actually are annoyed to be receiving these cards.
However, there is quite a percentage of business of newcustomers coming from that traditional channel. So my strategy is to graduallyget out of that channel. However, that will take us a couple of quarters,moving out of that traditional channel. So right now what we are doing is we areoptimizing the channels. We really reduced the channel from-- well, when I saidchannels it's really the bus station, airports etcetera, etcetera. So we aretrying to reduce quite a number of traditional channels and shifting ourexpenditures to the customer loyalty program.
For example, the triple points program we just launched itin November for hotels and we also are going to continue that program for awhile to really reward customers who continue to shop with us. Right now,because we have experimented in the past quarter with a different approach, forexample, online marketing we have now gradually increased the efficiency of theonline marketing.
Also in other areas of sales and marketing, we start to seethat by geography, optimizing, that we could also better utilize our salesforcein the field and also make a better constructed deal with the websitesbusiness, that we also look at how to optimize that channel also.
So going forward is really a balanced approach of acquiringnew customers and also how to gain the loyalty of our existing customers. Thankyou.
Operator
Your next question comes from [Reid Abden – Brendon Madoff].
Reid Abden – BrendonMadoff
Can you talk about how long it's going to take to implementthe new software platform? Can you talk about headcount for call centers, whatit was last quarter, what it was this quarter and what do you expect it goingto?
Henrik Kjellberg
On the platforms, wethink there are different components to it. Some things we think we think canbe implemented relatively quickly, which should have a consumer facing elementto it, but there are some items which we think are going to take probably inthe sort of 12 to 18 months to really and get the back end infrastructure assolid as we would like it to be. It doesn't mean that all changes are going tohappen at the end of an 18 month period, but I think before we conclude itwe're looking at a year, year-and-a-half.
In terms of the headcount, Chris, can you just go throughwhere we were on headcount last quarter? I'm not sure we do predict headcounton a forecasting basis.
Chris Chan
No. We don't forecaston headcount. Our cost on headcount stayed pretty much the same as Q2 at around950 people.
Operator
Your next question comes from Vik Mehta - J Goldman.
Vik Mehta - J Goldman
First, with regard to your change in how you're going to bereporting revenues, if I understand correctly your guidance is 12% to 22%. Isthat based on last year's net revenues as well?
Chris Chan
Correct. It's apples-to-applesnet revenue basis.
Vik Mehta - J Goldman
And then the Q3 thatyou're reporting right now, I haven't been able to go through the exact press releaseright now, but the Q3 that you're reporting right now that's on gross revenue?
Chris Chan
If you look at thefinancial statements it's been restated to report on a net basis, but we dohave two exhibits on the back to show you the previous two quarterpresentations using the net method and later on after the call we will beposting a 12-month basis restated statement for your convenience.
Vik Mehta - J Goldman
Therefore then in Q4 your gross margins will automaticallybe moving up, assuming that the business stays the same as in Q3?
Chris Chan
Yes, correct. So thisis all apples-to-apples basis.
Vik Mehta - J Goldman
Can you give anapples-to-apples comparison of --I guessapples to apples is wrong -- but can you give us a sense of what your grossmargins might look like in Q4 assuming you were to have a 74% gross margin theway you reported in Q3?
Chris Chan
Well, we don'tcomment on margin. So we only give revenue guidance and for this quarter theguidance will be on net revenue basis and the growth rate is also year-on-yearon net revenue.
Vik Mehta - J Goldman
Okay, but it's safeto assume that gross margins will move up in this transition? I'm justclarifying that.
Chris Chan
Once the number has been quantified we can pretty much tellthe effect on the percent just from the formula. I think that would be a slightimprovement to the percent because of the lower denominator number.
Vik Mehta - J Goldman
The next question is with regard to your cash that presentlysits in U.S. dollars. If I understand correctly with regards to acquisitions,you would be looking in Chinaor other parts of Asia. Why would you keep the cashsitting in U.S. dollars, which appear to be depreciating on a daily basis?
Henrik Kjellberg
That's a good question and one that we discuss intensely atthe board level and at the management level. We are reviewing options of wherewe want to keep the cash. I think we're getting refined in terms of ourstrategy where that cash will be needed. At this point we've concluded that weneed to investigate a little bit further to determine what the best use of itis; but again, we're no strangers to the realities of the market and followingthe trajectory of the dollar. So we expect in the future to have a betteranswer as to where to actually place it.
I think at this point also we have judged it as a managementteam that we have more pressing matters than to focus solely on the cash.Although it is a financial impact on the company, we don't think it is of -- let'scall it critical importance -- at this very quarter, given some of the otherchallenges we have. So all of the team right now is focused on improvingcustomer service and are really getting the company back on track, so that'swhy it hasn't been at the forefront of our agenda.
As we get a lot of these things fixed and we are starting tomake very good progress in some of these areas, the cash question will rise interms of priority and by that time we expect to get back to investors with ananswer on how that cash will be used.
Vik Mehta - J Goldman
Okay, are there anyother alternatives for cash besides acquisitions and share repurchase?
Henrik Kjellberg
Sure. I mean youcould put it in currency baskets and there's a number of different hedgingfunds and hedging strategies that are out there in the market; but again, asyou investigate these some are good and they all have pros and cons. So, yes,there are other options for the cash.
Vik Mehta - J Goldman
Okay, my last question is with regard to your top linegrowth. Being that you're not burning cash, I mean there is an economic changein your cash position due to the remedy of the measure, but being that you'renot burning cash why not accelerate even further your sales and marketing tothen help drive your revenues even faster?
Henrik Kjellberg
Again, a goodquestion. I think one of the things we did in Q3 was we started to acceleratesome of the spend in sales and marketing, but we've also found that unless youmatch this with the customer experience in the call center that is as good aswe would like it to be we're not creating the lasting impact on the consumersthat we are really trying to do in this market, so we wanted to work inconjunction. As we see some of the improvements that we believe will happen inthe consumer experience side as we upgrade the call center, then I think that'sa very viable question. I'd like Guangfu to comment on that as well.
Guangfu Cui
I think Henrik has said it well. Basically, unless you earnthe loyalty of the customers in Chinabecause in Chinathe competition is really centered in a few players in the market, so consumersreally look for the customer service to satisfy their choice of travel. So ourfocus right now will be the fundamentals, meaning that we will focus on knowwho the customer is and save their time so that we can really improve theexperience of the customers. That's our current focus. Thank you.
Vik Mehta - J Goldman
The guidance, if I take the midpoint of your guidance forthe next quarter at 17% year-over-year growth, should we use that as abenchmark for improvement from then on forward, as you are going to beincreasing and keeping the sales and marketing figure up where it is?
Henrik Kjellberg
Let me comment on that.In the long term, is we believe the current growth rates and that's certainlyone that we are not growing anywhere near to the potential of the company. Inthe immediate term we do think as we make some improvements we do expect thatto have an impact on consumers, so that would sort of lead growth rates overtime to up. However, as we're changing strategy I would also like to cautioninvestors that there are some risks associated with our strategy. So the sortof the short-term I would say is probably less certain; it's harder to give anaccurate guidance.
We're moving into new areas of marketing and as we're doingthat, we're upgrading the call center. How quickly consumers will realize thatthis is happening it's hard to predict. There's no empirical data we can lookback and model this on.
The long term we're very confident. Short to medium term Ithink the guidance number we've given gives an indication of where we think itis for Q4 and I don't want to at this point, I think as we give out the Q4results we'll be in a better position and we'll also give guidance on '08.Correct, Chris?
Chris Chan
Yes. Correct.
Operator
Your next question comes from Jason Johnson – AuroraInvestments.
Jason Johnson - Aurora Investments
Going forward, as youlook at the competitive landscape, could you comment what the vertical travelsearch engines have on those traditional travel online travel service like Ctripand eLong? There is a travel search engine called [Qnar.com]. this is a newplayer on the landscape. What impact should we see down the road?
Henrik Kjellberg
That's a good question. I mean I worked on the Expedia sideas well, so we've seen a number of these vertical search engines that areappearing in a number of markets. The general consensus across the globe if youwish is that these players are sort of niche players, that they certainly filla role in the market.
As we look to Chinamore specifically, there are a couple of players out there. However, in Chinathe number of players such as ourselves are quite few, so it makes a verticalsearch engine I would say possibly less interesting than in a market where youhave a large. You also have in Chinamuch less supplier direct at this point than you have in some of the moreestablished markets.
So at this point, we think they probably fill a niche sortof function. We don't necessarily think they're material to our trajectory ofwhere we're going or where we're not going. So they're a niche player. I thinkat this stage in Chinathey probably fill less of a role than in some more mature markets where youhave more players in the field we're in and also more supplier direct.
Jason Johnson - Aurora Investments
But I noted that allthe major players like all the big three China airlines -- Air China, ChinaSouthern, China Eastern -- they all put their products on [Qnar] and all thehotels like Marriot, Super 8, they sell their products online. They go direct.Will that impact your business down the road?
Henrik Kjellberg
Of course supplier direct in Chinawill come and of course they are already selling their product direct. That'snot news to me. I would say the quality of the product that is supplier directand the incentives used by the supplier direct in Chinawith in the U.S.or in the UK forexample, I think there is still a gap. We're certain that the supplier directelement will increase in China.I mean these companies are very clever, very smart and it will come.
I think for us, which is one of the reasons we're reallybuilding on what Guangfu mentioned on creating a superb relationship with ourconsumers, have a really good customer call center. We need to build this upbecause over time competition in Chinais going to increase, not decrease. Certainly supplier direct will become a muchmore tangible element in the market.
How fast this will happen? We don't know yet. So yes, fullyagree. I mean it's happening today and they're putting their product on. Idon't know all of these players that they're using, but the question is how muchis actually booked via them? That I would guess, I haven't seen any numbers butI would guess if you looked at the Air China report it's going to be less thanfor example a VA which in a short haul business is probably selling 60% to 70%of its business direct and not via travel agents.
Jason Johnson - Aurora Investments
My second question is about the Olympic impact. You know wehave in Chinawe'll host the Olympics next year. How much impact will that boost yourrevenue?
Henrik Kjellberg
On the Olympics we don't know what the impact will be. Thatmight sound strange, but I've been through two other Olympics with Expedia andit's very hard to predict. Here's why. All the hotels are extremely bullish atthis point, as they typically are eight or nine months ahead of the event onwhat's going to happen. What we've seen in other Olympics is as you get closersome of the rooms aren't actually filled and then they get more flexible andthey want to work with you.
So it can work both in our favor because ADRs will be upduring this month, but it can also work not in our favor if they're sold out. Thatvery much depends on the level of demand that Chinais able to generate from across the globe with people coming to Beijingand then Hong Kong for the Olympics.
We do have plans in place and we're working already withhotels to establish how we can promote the Olympics and also finding citiesaround Beijing where we can hostpeople as they come into the Olympics, but we don't have an actual number.We've assumed Olympics are neutral for us next year in order to beconservative.
Operator
There seem to be no more questions at the moment.
Henrik Kjellberg
Operator, I wouldthen ask that we conclude the call.
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