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Ctrip.com International, Ltd. (NASDAQ:CTRP)

Q1 2012 Earnings Call

May 16, 2012 9:00 p.m. EDT

Executives

Lin Zhang – IR Manager

Min Fan – President and CEO

James Zhang Liang – Chairman

Jane Sun – CFO

Jenny Wu – Deputy CFO

Analysts

Philip Wan – Morgan Stanley

Jin Yoon – Nomura Securities

Eddie Leung – Merrill Lynch

Wendy Huang – RBS

Chenyi Lu – Cowen & Co.

Jiong Shao – Macquarie Securities

Alex Yao – Deutsche Bank

Mike Olson – Piper Jaffray

Catherine Leung – Goldman Sachs

Fawne Jiang – Brean Murray

Alicia Yap – Barclays Capital

[Tien Yao] – [TH Capital]

Operator

Good day, ladies and gentlemen, and welcome to the first quarter 2012 Ctrip.com International, Ltd. earnings call. My name is Amanda and I’ll be your coordinator for today. (Operator Instructions).

At this time I’ll turn the call over to your host for today, Ms. Lin, IR Manager. Please proceed, ma’am.

Lin Zhang

Thank you, Amanda. Thank you for attending Ctrip’s first quarter 2012 conference call.

Joining me on the call today, we have Mr. James Liang, Chairman of the Board; Mr. Min Fan, President and the Chief Executive Officer; Ms. Jane Sun, Chief Financial Officer; and Ms. Jenny Wu, Deputy Chief Financial Officer.

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

Min, James and Jane will provide a business update, industry outlook and the financial highlights for the first quarter of 2012, as well as the outlook for the second quarter of 2012. We will also have a Q&A session toward the end of this call.

With that I will turn to Min for our business update.

Min Fan

Thanks, Lin, and thank you to everyone for joining us on the call today.

Through solid execution on our business strategies, the Ctrip team has continued outperforming the industry in the first quarter of 2012. Our net revenues grew by 90% year over year, in the high end of our guidance of 15% to 20% year-over-year growth. And net income decreased by 28% year over year.

We strengthened core business sectors, expanded into more new business areas, and intensified sales and marketing campaigns. We’ve further expanded our hotel supply network which cover about 30,900 domestic hotels as of the first quarter of 2012, compared with 18,000 hotels a year ago. The number of hotels with guaranteed room allotment accounted for about 70% of the total hotel supply.

Our hotel reservation e-coupon program has received positive user feedback, helped us attract more lead customers and further strengthened our leading position in the hotel reservation sector. We will continue to closely monitor the development of competition and adjust our strategies accordingly.

As part of our innovative product offering efforts, we upgraded the Smart Choice Hotels platform in the first quarter. Compared with other discount hotel booking models, the Smart Choice Hotels are more suitable to Chinese customers. The transparent pricing information model makes it easy for customers to find a great deal that meets their expectations. The Smart Choice Hotel product has been growing healthily since its launch, covering about 2,000 hotels already. With more hotels to join the network, we expect to see its increasing popularity among leisure travelers.

[Fujia.com] is another new initiative to explore the opportunities in the leisure accommodation market. It is a vacation rental business that offers customers a great choice of accommodations, with more flexibility and lower cost than traditional hotel. [Fujia.com] targets leisure customers traveling with families and friends. We believe the vacation rental business offers a brand-new travel experience for Chinese travels, and [fujia.com] has the expertise and technology to lead growth in China for this new segment.

In order to offer full range of hotel accommodations, different travel needs, Ctrip invested in [sungko.com], and hostel booking aggregate site. [Sungko.com] provides a high quality online booking service for the fragmented hostel market, with more than 5,000 hostel listings, including smaller budget hotel chains, [boutique] hotels and hostels in historic and scenic sites. As an independent brand, [sungko.com] targets the young generation who want adventure but have limited spending power. We believe [sungko.com] will help Ctrip further penetrate a younger demographic.

To accommodate fast-growing demand for international travel, we upgraded our international air ticketing channel in the first quarter. The upgrade channel provides users with more online searching and booking options, including complex multi-destination tickets. It also offers intelligent filter to help customers find the most suitable flight.

In addition, it provides for the most transparent and competitive prices. This upgrade of international ticketing platform is a revolutionary breakthrough in the international air ticketing market. We believe it will help us extend our leadership into international air ticketing.

Ctrip’s package tour business delivered another strong quarter with revenue from Mainland China to grow 51% year over year. The high-end travel is growing fast in China. The Chinese Luxury Consumer White Paper 2012, jointly published by the industry bank and (inaudible) indicates that there are nearly 3 million Chinese people who own over RMB6 million of personal assets.

To capture this rising demand of high-end travels, in March Ctrip launched HHTravel.com a new travel brand primarily looking at high-end travelers of (inaudible) China with a personalized super-deluxe tour. We successfully tested high-end market with our [global deluxe tour] three years in a row and results overwhelmingly beat the industry’s expectation. Our 80-day group tours which cost over RMB1 million per person was sold out within 17 seconds in March.

In April, Ctrip invested in a high-quality Chinese travel company, Trip TM. Through the integration of Trip TM’s unique resources, HHTravel.com is well-positioned to bring China’s high-end travel market into a new era.

After years of efforts, Ctrip has built a premier brand name and leading position in China’s corporate travel management sector. With superior service quality and extensive resources, Ctrip has achieved solid expansion of client base and revenue growth in this business.

In the first quarter of 2012, our revenues from corporate travel increased 23% year over year. To demonstrate our commitment to delivering the best service to our customers, in early May, Ctrip and China Call Center, a BPO association, jointly announced the launch of (inaudible) Contact Center Evaluation Process Desk. Ctrip is the only online travel service company to initiate (inaudible) evaluation in China.

In addition to our industry-leading call center service, Ctrip also achieved robust growth in its online transactions. Currently, Ctrip is about 45% of total transactions conducted online. Our mobile platform is gaining strong momentum. Booking volume has been reaching record highs every quarter, and Ctrip apps are among the most appropriate travel apps in China. In March, we upgrade the mobile apps for iOS and Android systems. A number of Ctrip travel app downloads has exceed 10 million, which now offers a mobile website and multiple apps for mobiles and tablet computers. And we are elevating them to seamlessly integrate our wireless online and call center services.

During the first quarter, Ctrip enhanced investment in sales and marketing. We reached out to more new customer through various channels by the end of first quarter of 2012. Our cumulative number of customers has increased to 16.4 million compared to 12.7 million at the same time in 2011.

Contributing to society is Ctrip’s mission that will never end. In November 2012, the Ctrip founded construction of another Hope School in Guangxi Province was completed. This is the sixth Hope School founded by Ctrip senior management since 2008, and we will continue to increase our efforts and demonstrate our commitment to society.

Based on our deep understanding of China market, we have clear strategies to execute our strategic growth initiatives. Looking back on our growth so far, every move we have made has kept Ctrip in the lead of industry growth trends. Amid the booming online travel industry in China, Ctrip will continue to strive to deliver the best product with the best service at the best price to our customers.

Now I would turn to James for the industry outlook.

James Liang

China’s economy grew 8.1% in the first quarter of 2012. World Bank has projected in April that the prospects for soft landing in China remains high, with GDP to grow 8% in 2012. Although a slow growth than the previous years for China, China will continue outperforming most leading nations in the world in economic growth.

As one of the major consumption industries, China travel industry will continue to deliver robust growth, aided by the increase of household incomes and enhanced paid vacation systems, according to the China Economic Impact Report 2012 issued by the World Travel Tourism Council, China is ranked number two globally in the growth of travel revenues for compounded annual growth rate at about 10% for the next 10 years.

We believe leisure travel will be the major industry growth driver, especially China’s travel services still in its early stage of online migration. Escalating online penetration will create more opportunities for all the players in the industry. Our strategy is to offer rich diversity of products and best value for money with leading service quality for our customers.

In addition, to continue to enhance our business travel offering, Ctrip is also putting more efforts towards capturing the great secular growth of the leisure travel sector. We believe given extensive experience in the China travel industry and a solid execution team, Ctrip is well-positioned to lead the industry in the future.

Now I will turn to Jane for financial update.

Jane Sun

Thanks, James. I'm pleased to report the solid results for the first quarter of 2012.

For the first quarter of 2012, net revenues were RMB911 million or USD145 million, representing a 19% increase from the same period in 2011. Net revenues for the first quarter of 2012 decreased by 2% from the previous quarter.

Hotel reservation revenue amounted to RMB367 million or USD68 million for the first quarter of 2012, representing an 18% increase year-over-year, primarily driven by an increase of 21% in hotel reservation volume, and partially offset by a decrease of 3% commission per room night year on year. Hotel reservation revenue decreased by 8% quarter on quarter primarily due to seasonality.

Air ticketing booking revenue for the first quarter of 2012 were RMB360 million or USD67 million, representing a 10% increase year on year, primarily driven by a 17% increase in air ticketing sales volume and a 5% decrease in commission per ticket year on year. Air ticketing booking revenues decreased 5% quarter on quarter.

Package tour revenue for the first quarter of 2012 were RMB166 million or USD26 million, representing a 33% increase year on year due to the increase of leisure travel margin. Package tour revenue increased 28% quarter on quarter, primarily due to the increased travel demand during Chinese New Year. Corporate travel revenue for the first quarter of 2012 were RMB39 million or USD6 million, representing a 23% increase year on year, primarily driven by the increased corporate travel demand for business travel activity. Corporate travel revenue decreased 18% quarter on quarter due to fewer business activity during Chinese New Year.

Gross margin was 75% in the first quarter of 2012 compared to 78% in the same period in 2011 and 76% in the previous quarter.

Product development expenses for the first quarter of 2012 increased by 51% to RMB196 million or USD31 million from the same period in 2011, an increase by 14% from the previous quarter, primarily due to an increase in product development personnel and share-based compensation charges. Excluding share-based compensation charges, product development expenses accounted for 18% of net revenue, increased from 14% in the sales -- in the same period in 2011 and increased from 16% in the previous quarter.

Sales and marketing expenses in the first quarter of 2012 increased by 47% to RMB183 million or USD29 million from the same period in 2011, primarily due to an increase in sales and marketing related activities, and an increase in sales and marketing personnel. Sales and marketing expenses for the first quarter of 2012 decreased by 1% from the previous quarter. Excluding share-based compensation charges, sales and marketing expenses accounted for 19% of net revenues, increased from 15% in the same period in 2011, and remained consistent with that in the previous quarter.

General and administrative expenses for the first quarter of 2012 increased by 57% to RMB129 million or USD20 million from the same period in 2011, and increased by 14% from the previous quarter, primarily due to an increase in administrative personnel, share-based compensation charges and the incremental turnover tax due to the new value-added tax reform. Excluding share-based compensation charges, general and administrative expenses accounted for 8% of net revenue, increased from 5% in the same period in 2011 and increased from 6% in the previous quarter.

Income from operations for the first quarter of 2012 was RMB177 million or USD28 million, representing a decrease of 33% from the same period in 2011 and a decrease of 23% from the previous quarter. Excluding share-based compensation charges, income from operations was RMB277 million or USD44 million, representing a decrease of 17% from the same period in 2011 and a decrease of 15% from the previous quarter.

Operating margin was 19% in the first quarter of 2012 compared to 34% in the same period in 2011 and 25% in the previous quarter. Excluding share-based compensation charges, operating margin was 30%, decreased from 44% in the same period in 2011 and 35% in the same period -- previous [year].

The effective tax rate for the first quarter of 2012 was 28%, increased from 21% in the same period in 2011 and increased from 23% in the previous quarter, primarily due to the increase in the amount of non tax-deductible share-based compensation as a percentage of our income as a whole.

Net income attributable to Ctrip's shareholders for the first quarter of 2012 was RMB169 million or USD27 million, representing a decrease of 28% from the same period in 2011 and a decrease of 33% from the previous quarter. Excluding share-based compensation charges, net income attributable to Ctrip's shareholders were RMB270 million or USD43 million, representing a decrease of 12% from the same period in 2011 and a decrease of 22% from the previous quarter.

Diluted earnings per ADS were RMB1.11 or USD0.18 for the first quarter of 2012. Excluding share-based compensation charges, diluted earnings per ADS were RMB1.77 or USD0.28 for the first quarter of 2012.

As of March 31, 2012, the balance of cash and cash equivalents, restricted cash and short-term investment was RMB5.2 billion or USD819 million.

For the second quarter of 2012, the company expects to continue the net revenue growth year on year at a rate of approximately 15% to 20%. This forecast reflects Ctrip's current and preliminary view, which is subject to change.

As of May 16, 2012, Ctrip cumulatively purchased approximately 2.6 million ADSs with a total consideration of USD58 million from open market under two existing share repurchase plans adopted in 2008 and 2011, respectively.

Now, I would turn to Min for management promotions update.

Min Fan

Today we announced the promotion of Ms. Jane Sun, Ctrip's Chief Financial Officer from December 2005 to May 2012, to be the Chief Operating Officer of the company. Jane played an important role in building Ctrip into a leading internet travel company. Jane was awarded the Best CFO of the 2011 All-Asia Executive Team by Institutional Investor Magazine. Jane is well-respected for her expertise in financial operations, mergers and acquisitions, investor relationship, operating and managing the OTA business over the years as the CFO of the company.

We also announced the promotion of Ms. Jenny Wu, Ctrip's Deputy CFO since December 2011, to be the Chief Financial Officer of the company. Prior to joining Ctrip, Jenny was an equity research analyst covering China Internet and Media industries in Morgan Stanley Asia Limited and in Citi Investment Research & Analysis from 2005 to 2011. Prior to that, Jenny worked in the Department of Enterprises Operations and Management in China Merchants Holdings International, one of the largest SOEs in China listed in the Hong Kong Stock Exchange for three years. Jenny has a Ph.D. degree in finance from the University of Hong Kong, a Master's degree in philosophy in finance from the Hong Kong University of Science and Technology, and both a Master's degree and a Bachelor's degree in economics from Nan Kai University, China. Jenny has been a Chartered Financial Analyst since 2004.

We hold a highest appreciation to Jane's significant contribution to Ctrip during her tenure with us as the CFO, and we trust she will play an even greater role in our company for the years to come. We are very pleased to have Jenny succeed the CFO position. Jenny's extensive experience and knowledge in capital markets, internet industry and large corporate operations make her an excellent choice for CFO position. We believe that Ctrip will achieve greater success under the leadership of our expanded senior management team.

Jane and Jenny, would you like to say something?

Jane Sun

Thanks, (inaudible). I would like to take this opportunity to thank all of our investors, analysts and everyone who has supported Ctrip throughout the years. I will work very hard with our team in my new role to further strengthen our operations. With your support, Ctrip team will work diligently to capitalize the tremendous opportunity withn the China travel industry.

Jenny?

Jenny Wu

Hi, everyone. This is Jenny. I would like to thank Jane (inaudible) and the Board for offering me this fantastic opportunity to be a part of this great organization. I feel very excited to work with this superb management team to (inaudible) all the opportunities and challenges ahead. In addition, I look forward to working even more closely with all of you in the investment and research community. Thank you.

And with that, operator, we are opening the line for questions.

Question-and-Answer Session

Operator

Thank you, ma’am. (Operator Instructions).

Your first question comes from the line of Philip Wan of Morgan Stanley. Please proceed, sir.

Philip Wan – Morgan Stanley

Hi, good morning, James, Min, Jane and Jenny. Thank you for taking my question. First of all, congratulations on a very good quarter and also Jane and Jenny’s promotion.

My first question is about your margin, which came in better than expected. I wonder if you could share with us any particular reason for that. And also, how should we look at the margin trend for the coming quarters? Thank you.

Jane Sun

Sure. First of all, I think for this year, Ctrip is very committed to invest in our product and also invested in the sales and marketing campaign, which will strengthen our branding. Having said that, Ctrip team is always very disciplined. To an extent we can save costs and run very efficient operation and run a very efficient [setup] in the marketing campaign, we will. Going forward, I think for this whole year we will continuously to invest in the product line that will strengthen our comprehensiveness of the product offerings. And also in the sales and marketing channels, we will strengthen our presence in all the channels that will reach out to our new customers.

So, for Q1, our operating margins before stock comp was about 30%. After stock comp, was about 19%. Going forward in Q2, depending on the market condition, we’re still very committed to our new product investment in sales and marketing. So, on the top line, our guidance is about 15% to 20% year-over-year growth.

The operating margin, it will be, on GAAP basis, somewhere around 15% to 17% -- I'm sorry. It’s about 17% to 18% on the operating line. But that’s a very prudent guidance, taking into consideration of our campaign and new investment.

Philip Wan – Morgan Stanley

Thank you, Jane. And then my second question is about your hotel booking business. The hotel booking volume actually came in softer than expected. Any reason for slower-than-expect acceleration? And also if you could share with us any updates about the coupon program. For example, do you expect to further step up the discount to boost customer acquisition? That will be very helpful. Thank you.

Jane Sun

Sure. When we give our guidance in February, I think the January number came in very strong due to the Chinese New Year. But February and March, the number was not as strong, so that was the reason. However, from a year-over-year comparison and also from previous quarter, we believe the coupon program has been very effective.

In Q4, if you remember, our hotel volume growth was about 10% year over year, and in Q1 the volume has doubled to 21% year-over-year growth. And we will continuously monitor the market condition to match up to any coupon program that’s available in the market.

Secondly, also in the market we have to be smart with which are we will invest our money in. So when we look at the hotel market, there are regular and mainstream hotel market, and there is also [group power] market. The mainstream hotel market is our focus because that promotes our branding and also that promotes our customers’ loyalty. For the [group power] market, that doesn’t carry Ctrip’s brand, and therefore we do not focus too much on that area.

So if we put all our efforts and investment in the product that [will weigh] the customers’ loyalty to us, that’s our investment focus. So, going forward, that will still be our strategy.

Philip Wan – Morgan Stanley

Thank you, that’s very helpful. Maybe a sequel of what kind of volume expectation are you looking at for second quarter for hotel bookings?

Jane Sun

Okay. Can you hear me okay?

Philip Wan – Morgan Stanley

Yes.

Jane Sun

Okay, great. Maybe I can take this opportunity to walk you through the volumes for all product line. For hotel, volume growth we expect 15% to 20% growth, and price is about 5%, and commission rate due to the (inaudible) program will be 5% down. So, overall, revenue growth is forecasted at 15% to 20% year-over-year growth.

Air ticket volume is going to be 10% to 15% year-over-year growth, and price and commission remain to be flat. So that gives us the revenue 10% to 15% growth. Corporate volume is 10% to 15% year-over-year growth, and price and commission remain flat. And the revenue is going to be grow at about 10% to 15%. So if you add these three items -- and also package tour, our forecast is about 25% to 35% year-over-year growth.

If you add all four of them together, that gives us the 15% to 20% year-over-year growth for Q2.

Philip Wan – Morgan Stanley

All right. Thank you, Jane, that’s very helpful.

Jane Sun

Sure. Thanks, Philip.

Operator

Your next question comes from the line of Jin Yoon of Nomura. Please proceed.

Jin Yoon – Nomura Securities

Yes, good morning, everyone. So, just piggybacking on that question regarding hotels, like your sales and marketing cost, it seems to be it was down a little bit. Is there any correlation between sales and marketing in the hotel side, as we expect volumes to increase to the second half of the year, should we also expect sales and marketing costs to incrementally go up?

And the 30% kind of margin that you talked about the in the past, can we expect to be a ceiling or is that a floor, when you look out over the next couple of quarters? Thanks. I’ll stop there.

Jane Sun

Sure. I think the sales and marketing campaign will be kept down for this year to promote our products. In order to be very successful in the product line, I think both products need to be very strong and also sales and marketing campaign needs to be kept up. So, on the product line, I think as [Fan Sung] discussed, we have extended our product line into all dimensions, including our small hotel hostel model, our Smart Hotel Choice, and also we’re testing the water for the vacation rental market. So I think our product is the strongest in the market.

With that, that gives us a very strong base for running sales and marketing campaign. So we are prepared to spend money into online -- both online and offline channel to strengthen our branding this time.

So, 30% of operating margin before stock comp is for the full year. That gives us a baseline. So, somewhere around 30% is what we’re shooting for. Depending on the quarterly number and the seasonality, sometimes it will be a little higher, sometimes it will be a little bit lower. And also depending on the timing of the sales campaign, so it can be 1 to 2 percentage higher or lower. But on average for this year, that’s our target number.

Jin Yoon – Nomura Securities

Perfect. Thank you, Jane, appreciate that.

Jane Sun

Sure. Thanks, Jin.

Operator

Your next question comes from the line of Eddie Leung of Merrill Lynch. Please proceed.

Eddie Leung – Merrill Lynch

Hey, good morning. Many congratulations to Jane and Jen, and thank you for taking my questions.

I have two questions, the first one is about the decline in commissions per ticket and room night. So, could you guys like give us more color of the reasons behind it, while we know that the pricing of tickets and hotels are in general going up year on year?

And then secondly, I'm also curious on Jane’s comment about those like group buy or big discount hotel offerings by some of your competitors. So, just wondering on the (inaudible) why you think consumers would not be attracted by these big discounted offerings while branding would still be important to most consumers? Thanks.

Jane Sun

Sure. So, let me ask -- answer these two questions separately. The first one is the commission rate in air ticket. If we look at per ticket basis, dollar amount per ticket decreased about 5%. So that’s about $2 -- RMB2 for ticket. $1 was due to the price decrease, another RMB1 was due to the commission rate. So, these two elements is not within our control. From quarter to quarter sometimes it can be up, sometimes it can be down. So it’s very moderate when we look at the past quarter.

The second one is on the hotel. I think the majority of the hotel are very -- would like to get the maximum their hotel yields. So, to an extent they can get more money for every hotel room they (inaudible) help hotels very much to maximize their revenue stream. On the consumer side, obviously the coupon is attractive to the consumer, so, Ctrip rebated cash to the consumers to match up with the market.

And then the comments on the group buy is that when the group from company sells these hotels, it’s sold under the group’s name. At the backhand, although it’s provided by OTA, the backhand name is not presented to the customer. So, your branding, your brand is not rooted in these consumers’ hearts, so you don’t get credit in the sales and marketing.

Secondly, on the profit, you don’t get any credit on that either because coupon, as you all know, is a low-margin business. So, last year, I believe the market had thousands of different coupon company, and this year in the market, the number of the coupon company has reduced to half. So that’s already been such big change. Most of the coupon products probably is not sustainable. That is why we do not want to spend too much efforts to a product that neither gives us the branding nor give us the customer’s loyalty or give us the bottom line. So that’s where the comment was coming from.

James Liang

Yes. Also I will some color for your question. I think for the hotels side, the coupon model is a kind supplementary sales channel for some hotels, but will not be the main channel or the main stream for hotel sales and marketing practice. And also in terms of most of the international branding -- international brand hotels or those -- will establish local brand hotels, [group pang] model is just a very small supplementary sales channel for them.

So I think for -- in fact, Ctrip will also have more [group pang] buying products in our website, but this mainly will come as very good supplementary for those, for example, new hotels, or for those hotels when they are their low season. So we’ll build this as just a supplementary sales channel for hotels and also can bring value to those price-sensitive customers.

Eddie Leung – Merrill Lynch

That’s very helpful. Thank you.

James Liang

Thank you.

Operator

Your next question comes from the line of Wendy Huang of RBS.

Wendy Huang – RBS

Good morning. Please allow me to add my congratulations on the promotions of Jane, Jenny. Great team setup. I look forward to communicating with both of you more closely in the future.

My first question is about hotel market. It seems that Ctrip is now penetrating into almost all the hotel segments and total distribution channels. So, how will this initiative change the hotel margin profile for Ctrip in the long term? And also I recall that Ctrip’s market share in the hotel booking market was about 2% to 3% now. So, what’s your -- what percentage of hotel market volume that Ctrip aims for in three years’ time?

James Liang

Yeah. I think for the past 10 years Ctrip has well-positioned as a very good hotel execution platform and for those middle to high end hotel consumers. And I think in the year -- in the past years and also in the years to come, Ctrip will have much more coverage not only on those middle to high end but also we will cover all the product lines, all the hotel product lines like the -- like we just launched some new product line like the Smart Choice, is quite similar, like the [Hot Buy] model and also (inaudible) model and also the -- something like the Home Away model. So I think this -- that we can provide very good variety of products for our target customers.

And I think in the -- in China, still, as you know, the -- our membership hotels right now have more than 30,000, but still in the market there are a lot of hotels, probably they have very good potential for Ctrip to [cooperate] in the near future. So, definitely we will have more coverage to provide more varieties to our customers.

So, in terms of percentage-wise, I think still right now Ctrip, the total market share in terms of the whole hotel and (inaudible) and hotel market in China, this is a very small percentage, still right now only around 3%. So I think in the years to come we will try to significantly to increase our market share.

Wendy Huang – RBS

Thank you. My second question is try to get a better color on the second half travel demand and also Ctrip (inaudible) growth. I guess (inaudible) information I got from other internet companies results and guidance so far is that for some cyclical internet sector such as online advertising and online recruitment, they have all seen the increasing (inaudible) in the advertising demand or recruitment demand. But on the other hand, they are expecting the revenue to be more second half loaded, so they expect better second half outlook. So, Ctrip as operator in also cyclical travel -- online travel segment, should we expect your year-over-year revenue growth to be higher in second half, not only I guess given the potential higher demand but also given the easier comp versus 2011? Thank you.

Jane Sun

Yeah, I think our team works very hard obviously to deliver as high number as possible. But to be prudent, I think our visibility right now probably only allows us to give you the second quarter of the guidance. But we’ll work very closely with our partners to make sure when we give third quarter and fourth quarter guidance, it’s as insightful as possible. But I think the plans and also the seeds we have planted in the previous year and in Q1 will generate very good results in the years to come.

Wendy Huang – RBS

Okay. Thank you, Jane.

Jane Sun

Thank you.

Operator

Your next question comes from the line of Chenyi Lu of Cowen & Co. Please proceed.

Chenyi Lu – Cowen & Co.

Great. Thank you. I have two questions. First question, regarding the gross margin trend going forward. This quarter we have gross margin about 75.2%. Can you give us a view over the next few quarters? And if you can, can you please provide us the gross margins right now by segment, that’ll be great. Thank you. That will be my first question.

Jane Sun

Sure. The gross margin for Q1 is about 75%. In Q2 it’s probably around 73% to 74%, mainly due to our efforts and determination and to keep up with the (inaudible) program. Going forward, I think in the long, long term, a 70% gross margin is very sustainable in our business. So, that’s how we forecast our gross margin.

In terms of product line breakup, hotel is the highest in terms of gross margin, 85% to 90%. Air ticket is the lowest, 65% to 70%. And the vacation package is in between because it’s a combination of ticket plus air -- ticket plus hotel, so the gross margin is about 70% to 80%. So, depending on the seasonality and depending on the market condition, it can be on the high end of the range or low end of the range.

Chenyi Lu – Cowen & Co.

Okay. And my second question, regarding the operating expense, I can see this quarter the product (inaudible) also G&A coming a little bit higher. Can you give us a view as to, are you expecting that you will continue to invest in these two area over the coming few quarters? Thank you.

Jane Sun

Sure. Sure. For product development, yes, I think we have lined up all the new business development, including the ones we have already talked about, the vacation rental program, the hostel model, Smart Hotel Choice, our (inaudible) platform, our 3G product line. So we will keep up with our efforts in this new investment. So, although this year the market will take a hit, we believe in the upcoming years all these new product lines will generate very good results for us. So the efforts will be kept up.

In terms of G&A, that is the line we control very tightly. This time you see about RMB7 million in G&A was due to a VAT tax reform. As a result of this VAT tax reform, there is about RMB7 million to be reclassified from the business tax line to G&A. On the net-net basis, there is diminimus impact on the bottom line. But between the line, there is a reclassification. That’s the main reason why you see G&A has picked up.

Chenyi Lu – Cowen & Co.

Okay. Jane, I want to add one more thing. You just talked about tax rates, right? This quarter, tax rate, effective tax rate is about 28%, which is probably the highest over the last eight, nine quarters. Can you give us a view what the effective rate going forward? Thank you.

Jane Sun

For Q2 we forecast about 28% as well. The tax rate, depending which entity receive these incomes, and different entities have different tax rates, and obviously our team will work very hard to get as much tax benefit as possible within the law. But for Q2, we forecast to add about 28%.

Chenyi Lu – Cowen & Co.

Great, thank you. That’s all my questions.

Jane Sun

Thanks.

Operator

Your next question comes from the line of Jiong Shao of Macquarie. Please proceed.

Jiong Shao – Macquarie Securities

Thank you very much for taking my questions. Again, congrats to both Jane and Jenny. I have two questions as well. First is more like a follow-up, operating margin question. I think, Jane, you mentioned earlier that GAAP operating margin guidance for Q2 is 17% to 18%. I was wondering, could you give us the non-GAAP? And I also want to make sure I heard you right that the 30% operating margin, non-GAAP operating margin, is for the full year, and that by end of the year the target is 35%? That’s my first question, on margins.

Jane Sun

Thanks for your question. First of all, I think for the full year, non-GAAP operating margin is targeted at 30%, not 35%. Obviously we’ll work very hard to deliver good margin, but so far, 30% is our guidance.

Secondly, on GAAP basis, operating margin for Q2 is about 17% to 18%. On non-GAAP basis, if you add back 11% for share-based compensation charges, you will get about 28% to 29% for operating margin on a non-GAAP basis.

Jiong Shao – Macquarie Securities

Okay. Thanks for the clarification. My second question is, competition, obviously in recent years, players like Taobao and others, [Choona], have got into the market, and most recently, even Suning start to sell tickets and hotel online. Could you just elaborate a bit just to us on the call how you think about competition going forward? What’s the competitive advantage Ctrip has against all these competitors? Thank you.

Min Fan

I think that recently there are emerging quite some players, try to provide travel solution to their customers. And like you said, Taobao, even Suning [Iko] is also entering this market. But I think (inaudible) very prominent leading (inaudible) in China, and I think the biz model of Ctrip is quite different from (inaudible) or Suning or other, even also the search engine, what they are doing. And we are the most comprehensive travel product platform, and we’ll provide our service and products through three major platforms, website, call center and mobile. And we can deliver reliable service from online to offline. So I think this is quite different and also this is also our competition edge over other players.

I think if you’re talking about the competition advantage of Ctrip, Ctrip has a full key features, what you can see, the big difference from other players. Ctrip offers one-stop solution for our customers. And although customers may find some products and other like, you know, other websites, either it’s hotels or air ticketing or other product, but all these platforms, the after-sales service, and Ctrip is the only one-stop comprehensive travel solution platform in China right now versus other players. So this is one big difference.

And also, secondly, Ctrip has our three major platforms which is quite different from other player’s operations. For our customers, our customer can reach Ctrip by website or by call center or by mobile device. Those channels operate 24 times 7, and our service quality is the best among the industry, with very high standards, while other websites or other players, probably they can provide different products, but most of them, they will rely on third-party agencies to fulfill the orders, while Ctrip, we will sell our customer from the very beginning to the after-sales service.

And thirdly, I think the -- for Ctrip have already very good centralized and standard processing system, and probably Ctrip is the first company applies Six Sigma quality consumer (inaudible) in travel industry. So, people -- customers will not just try to find some products online, but they will try to get the -- try to get highest and consistent service quality with lower costs. So this is what can provide while other players it’s very hard to provide.

And also I think for travel industry (inaudible) website can do everything. You still rely very much on whether you have very experienced, skillful [management] team and service delivery team. And this is I think Ctrip has the strongest results in travel industry. So I think we (inaudible) all the competition in the market and also if there are more online players, in fact all these players can educate customer in more efforts, but at [last], customer will -- customer will choose the most reliable and most high-quality player in the market.

Jiong Shao – Macquarie Securities

That’s very helpful. Thank you very much.

Min Fan

Thank you.

Jane Sun

Thanks.

Operator

Your next question comes from the line of Alex Yao of Deutsche Bank. Please proceed.

Alex Yao – Deutsche Bank

Hi, good morning, everyone, and thank you very much for taking my call. Firstly and probably most importantly is the congratulations to Jane and Jenny’s promotion.

I have two questions. Number one is, can you help us understand how the coupon program is helping the hotel (inaudible) growth in 1Q and your expectation for 2Q. Secondly, regarding your hotel business addressable market, there is some local news that suggested you guys are moving into the wholesale market. Does it reflect your challenges on strategies basically tapping into the business-oriented market on top of existing consumer-oriented market? Thank you very much.

Jane Sun

So, maybe I can talk about the first question, and second question our CEO will answer.

The first one is the coupon impact on the volume. We have seen the coupon has helped to attract customers that is price-sensitive. So if you look at Q4, our volume growth was about 10% year over year. In Q1 we doubled, it’s 21% year over year. And we will keep up our efforts to an extent that we match up with any coupon program that is available on the market. So that’s our strategy.

Min Fan

Yeah. I think for the hotel market, for our target customers, we will target not only the business travelers but also the leisure travelers as well. So, for hotel products providing, we’re working very hard to cover all the different product lines. Right now, I think you know, the -- our hotel model is still the agency model is the mainstream model in China and most of our customers would like that model. But still some hotels can deliver some prepayment rate which is significantly lower than the agency model. So we also will work on this field. So we will include those hotels who would like to provide those prepayment model and we will provide those products to our customers. So in that way, like the Smart Choice Hotel is somewhat very close to this model, and also group buying is close to this model, and also we will have some online booking discount for some special hotels, can be used this model. And also in the near future we will definitely try to provide more different product line to our customers to fulfill the different needs. So I think probably this is what you knew about the (inaudible) have more hotel -- different hotel room rate structure.

Jane Sun

Sure. Thanks, Alex.

Min Fan

Thank you.

Operator

Your next question comes from the line of Mike Olson of Piper Jaffray. Please proceed, sir.

Mike Olson – Piper Jaffray

Hey, good morning. Somebody asked earlier about the easier comps in the back half of the year, but I wanted to ask about Q2. I believe your Q2 revenue growth comp is a bit easier than last year. So, would you say that your Q2 revenue guidance is suggesting that you're seeing more headwinds for growth in Q2 compared to Q1, or would you say it’s just conservative given it’s the same range of 15% to 20% on an easier comp?

Jane Sun

Q2, obviously our team work very hard as strong results as possible, but there are a couple of things that we cannot control. First of all, James has talked about the GDP growth rate has been revised down a little bit, so we need to take that into consideration. There is also some obstacles in the southern part of China that make travelers a little bit concerned. So there is always certain uncontrollable events that we need to consider, take into consideration when we give our guidance. That is why we give number at about 15% to 20% range.

And also based on the April number, I think Southern Air was growing at about 5%, but Air China had a negative growth. So, net-net, the market is flattish. So we also took that into consideration.

Mike Olson – Piper Jaffray

Okay. That makes sense. And then, are there other attractive travel verticals beyond -- you guys talked about vacation rentals and hostels and things like that, are there other attractive verticals that you could talk about that you're looking at making acquisitions or investments in?

Jane Sun

I think we are always very active in the market, but we’re also very focused. Anything that is related to travel business, we have our eyes on it. But we need to wait until the market is ready. So, some of them probably, you know, we still need a few years to cultivate it. But when it’s mature enough, we will invest heavily into the market. And then hopefully within one to two years, these investments will generate very good yields for us.

The items we have disclosed have been cultivated for -- in the past, and now we spent quite some money in the product development line to further strengthen it. So, hopefully these items will generate very good results in the upcoming years.

Mike Olson – Piper Jaffray

Okay. Thanks a lot.

Jane Sun

Sure. Thanks.

Operator

Your next question comes from the line of Catherine Leung of Goldman Sachs. Please proceed.

Catherine Leung – Goldman Sachs

Hi, good morning. I wanted to add my congratulations to Jane and Jenny. Firstly, in terms of the Q1 program, how do you view the level of competitive activity now in terms of the possible rationalization that you might have expected when you launched the program?

And then secondly, in terms of the acceleration in product development’s cost growth, which I understand is for a lot of the new product initiatives, to what extent are you able to leverage your existing business development teams? And just repackaging some of your, for example, the hotel inventory, and how much is actually building separate teams for these new initiatives? Thank you.

Min Fan

I think for the e-coupon program we launched, I think we did see the positive feedback from our customers. And we will put -- this e-coupon will match all players in the market, and I hope, yeah, maybe sometime later then all the players can be more rational on this promotion. So, we will monitor the market very closely, yeah.

Jane Sun

In the new PDE program, you're right, some of the items we can leverage our infrastructure. For example, our Smart Hotel Choice, it’s a new team within our big hotel group. So, to an extent, they can leverage the personnel, people’s relationship. We’re fully leveraging that. Several of them are fairly new, so we have a separate team to work on it. So, for example, the vacation rental team, they execute very strongly; it’s a separate team. So, depending on how much overlap and synergy we have, either it is a small team within our existing infrastructure or it’s a separate entity, which give them more flexibility, more efficiency to execute into a new business area.

Catherine Leung – Goldman Sachs

Okay, got it. Thank you.

Jane Sun

Sure. Thanks.

Operator

Your next question comes from the line of Fawne Jiang of Brean Murray. Please proceed.

Fawne Jiang – Brean Murray

Good morning. Thank you for taking my questions. First one is actually regarding your hotel. It seems like you have very nice expansion of your [Omla] hotel network in the quarter. Just wonder, given your network is expanding, what are the -- the hotel spend are -- under the coupon program will increase with your hotel network growth as well. Also seems like, for the first quarter, the coupon impact on your revenue per room night only declined 3% year over year and I think your guidance second quarter 5% year over year. Just wonder whether the 5% is something we could -- we should look forward in the coming quarter as well, or do you expect that could potentially go farther? Thank you. That’s my first question.

Min Fan

Yeah. For the first question, I think for the -- when we enlarge our hotel pools, and the main purpose is we try to provide more option for our customers. But for e-coupon, definitely we will still match the market. Of course, we will not start a price war, but if the market there is certain discount or other players, they have very big discount of our hotel providing them, definitely we will match them. But in fact, we don’t calculate the percentage because the -- it’s changing. Yeah, it’s changing. So I think, yeah, we will (inaudible) we will still enlarge our hotel pool in the next quarter, and also we will match our e-coupon program with the major competitors.

Jane Sun

Regarding the margin impact, we guided 5% down for Q2, again as Min said, if our -- in the market, the coupon is scaled back, we will. But if anybody stepped up, we’ll also match them. So, we budgeted enough to handle any kind of e-coupon program in our guidance.

Fawne Jiang – Brean Murray

Got it. Second question is actually regarding your recent investment in the vacation rental as well as the hostel business. Just wonder if you could give us a little bit more color in terms of format of your investment. Also whether we will potentially see any financial impact from those investment, like basic, whether they will somewhere fall into your financials in the coming quarter, or whether those hotels are counted as your hotel network, and also like the room night booked, whether it’s also part of Ctrip or it’s just pure investment purposes?

Jane Sun

These two investments Ctrip is the majority shareholder. So, all the performance in terms of the expenses, the investment, is fully consolidated into our numbers already. So that’s the first thing. The second thing is, in terms of top line, since they’re so new, the impact is immaterial, but we have already picked up all their expenses in our product development line item.

Fawne Jiang – Brean Murray

Got it. Just to follow up on that, like when did you -- like what’s the date for the investment for [Sungko] and what’s the date for the investment for (inaudible) so, like, since do we pick up the expenses?

Jane Sun

I think Q1, mainly from Q1. We have been planning for this last year, but the majority expense start in Q1, late last year but early this year.

Fawne Jiang – Brean Murray

Got it. Thank you very much.

Jane Sun

Sure. Thanks.

Operator

Your next question comes from the line of Alicia Yap of Barclays Capital. Please proceed.

Alicia Yap – Barclays Capital

Good morning. Thanks for taking my questions, and congratulations to Jane and Jenny. First question is that, wanted to, it’s a housekeeping question, how many employees that you have on your call center by the end of first quarter? And any wage inflations or salary adjustment already happening or expected to impelement?

Jane Sun

We have about 8,000 to 9,000 employees in the call center. The wage inflation is already reflected in our number and guidance. So, I think with the moderating GDP growth rate, the inflation will be better controlled this year as well. So that’s our visibility. But we definitely will make sure the salary structure match up to the market condition.

Alicia Yap – Barclays Capital

I see. And then second is just that wanted to get a view from management like how we see the OTA agency model going forward for the industry. And will Ctrip, you know, has any plan to take more initiative to be, you know, going closer to the merchant model?

Min Fan

Yeah, I think for the merchant model -- merchant model and agency model is both popular models among the international OTAs. And in China right now, most practice is the agency model. But I do see in merchant model, the need is there, and also the growing is there. So, for Ctrip right now, our main stream is due to agency model, but we will add more product providing. Especially in hotel side we will provide the merchant model for targeted customers, especially those leisure customers. And also, in fact, as you know, in China, during the peak season, probably you have to do the merchant model in some scenic areas. So I think this is ongoing process right now.

Alicia Yap – Barclays Capital

I see. So, can we just get, in general sense, let’s say for China, what will be the margins difference on the merchants versus agency model?

Min Fan

Yeah. The margin difference is almost the same, probably the same, because even though -- even for the hotel side, they will view these two model, yeah, as normal practice. So, if there’s no need (inaudible) raise one margin and decrease another margin.

Alicia Yap – Barclays Capital

I see. Got it. Thank you. Thank you so much.

Min Fan

Thank you.

Operator

Your next question comes from the line of [Tien Yao] of [TH Capital]. Please proceed.

[Tien Yao] – [TH Capital]

Thanks for taking my question. The question is really related to your product development. So I saw a jump in the product development investment, so I wonder, which are the area have you invested? And is this, you know, can you give us some color on your (inaudible) above the potential revenue contribution from your investment?

Jane Sun

Sure. As we discussed, I think the increase in product development is mainly for the new business development. In the hotel business, we put a lot of efforts in the variety of different model. For example, the Smart Hotel model is targeted at leisure, middle to high end customers. The hostel model is targeted at budget customers. Vacation rental is a new market, nobody has done it before, so that’s on the hotel side. And then on the -- 3G is also a future trend for our business, so we spend quite heavily to invest in that area. And also on the train ticket, I think again that’s also very important area.

So, anything that is helpful for a customer that is (inaudible) have it. But we will do it in a very methodic way in a sense that when the market is ready, when the customer has that requirement, when the industry has the infrastructure, we’ll pull the trigger and make the investment, make sure Ctrip’s platform provides the most comprehensive product in the market. So that’s our strategy. That’s why the product development line increased. But we believe the future revenue for these items will be very good, to generate good yield for -- from these investments.

[Tien Yao] – [TH Capital]

Okay, that’s helpful. And regarding the package tour, I believe the package tour market is actually quite crowded. So, what’s the differentiation between Ctrip package tour and the other guys in the market, like [Tienyu]?

Jane Sun

[Tunyu].

Min Fan

Yeah. I think right now our package tour business enjoys very high quality and also we enjoy a very wide coverage on different destinations, not only domestic but also abroad. I think the model of [Tunyu] and other online players, I think their positioning and (inaudible) a little bit different. For Ctrip positioning, we mainly position on the middle to high end range of customers, I mean the package tour business. And also we have very big portion, big percentage of products (inaudible) from the FIT business, that means hotel plus air ticketing and plus ground service packages, ground service options, while other players, it’s very hard for other players to provide this kind of FIT packages which can be very flexible and also goes through a seamless connection with the real inventory of hotels and airlines.

So I think in terms of the coverage of destinations, in terms of the flexibility and also in terms of service quality, Ctrip definitely is among the number -- is number one on all these players in the market.

[Tien Yao] – [TH Capital]

Okay. Thank you. That’s very helpful. That’s all my question.

Min Fan

Thank you.

Jane Sun

Yeah, you're right, package tour growth in Mainland China for our group is holding very strong. It’s above 50% year-over-year growth. So we will keep up with that momentum.

Operator

Your next -- your final question is a follow-up question from Wendy Huang of RBS. Please proceed, ma’am.

Wendy Huang – RBS

Thanks. First, I just want to double-check on the operating expenses for Q1, because since that non-GAAP operating margin comes better than what you guided three months ago by 2 to 3 percentage points, so, which part of cost came in less than you expected three months ago?

Jane Sun

I think some of the sales and marketing expenses, we put it in during the later part of the quarter, so there is partial quarter expense there. But depending on the marketing condition, I think it’s necessary with strengthened investment in certain channel.

Wendy Huang – RBS

Okay. And also, can you give me some update on your travel review website, [Diping], how has the traffic grown, and also what’s the progress on the advertising revenue, and also its business model?

Min Fan

Yeah. I think [Riping] is doing very well, and if you check our website, recently upgrade the website to optimize user experience, and we will still focus very much on the hotel [comments]. And also we will focus very much on the travel reviews, which is [UGC] model from our users.

And also [Riping] right now works with most our other major OTAs in China, and also if you log on [Riping], independent, you will see other online players on [Riping’s] website, and also [Riping] will provide hotel comments for other players, and also [Riping] is more independent travel community in the market, not just only work for one OTA.

So I think for [Riping], we do see very good growth trend there. And [Riping] we’re in to build a platform, user-generated travel guide. And also if you check [Riping’s] page view and unique views, sorry, it grows very healthy and strongly. And I think [Riping] right now is among the top one travel community in China in terms of review quality and in terms of the travel coverage.

Wendy Huang – RBS

Is there anything that you can share with us about the revenue movement in [Riping]?

Jane Sun

The revenue compared to Ctrip’s revenue is still insignificant as it’s still in the early stage. But it’s their goal to make sure the user content to become so robust that it will attract more advertiser.

Wendy Huang – RBS

Okay. Finally, among your four key operating metrics, hotel volume, hotel commission per room night, air ticketing volume and commission per ticket, so which variable is most uncertain for the rest of the year, in your view?

Jane Sun

Yes, sure. So if you look at our revenue stream, there were three main factors we need to take into consideration. The first one is volume. The second one is price. The third one is commission rate.

The first one, our competitiveness will reflect in the volume, because no matter if it’s a strong market or a slower market, as long as we run efficient and strong execution, we should outpace the market based on the baseline. So that number I think reflects our competitiveness.

On the pricing, normally hotel and airline sets the price. And that is going to be determined in the market condition, supply and demand to drive the pricing structure. We can monitor it but we cannot control it.

On the commission rate, again that is also determined by the hotel and by the airline. So far it looks like very stable, so that’s the best visibility we have on these three items.

Wendy Huang – RBS

Okay. Thanks, Jane.

Jane Sun

Sure, thanks. And Wendy, I know most of the analysts will do a model, so, one reminder is for this quarter we will pick up RMB18 million from the investment in Home Inns because Home Inns is doing an integration with Motel 168. They have a loss in Q1, and we’ll pick up our share of their loss of RMB18 million. So when you work on your model, please take into consideration of that item.

Wendy Huang – RBS

Thank you for the heads-up, that’s very helpful. Thank you.

Jane Sun

Sure. Thank you.

Operator

This concludes the question-and-answer session for today. I’ll now turn the call back over to Lin for closing remarks.

Lin Zhang

Thank you everyone for joining us on the call today. A replay of the call will be available on the IR website shortly after the call is completed.

We appreciate your interest in Ctrip and look forward to communicating with you again next quarter. Thank you.

Jane Sun

Thank you very much.

Min Fan

Thank you.

Operator

This concludes today’s presentation. You may now disconnect. Have a good day.

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