HomeAway Management Discusses Q2 2012 Results - Earnings Call Transcript

Jul.25.12 | About: HomeAway, Inc. (AWAY)

HomeAway (NASDAQ:AWAY)

Q2 2012 Earnings Call

July 25, 2012 4:30 pm ET

Executives

Courtney Hicks Dickey

Brian H. Sharples - Co-Founder, Chairman, Chief Executive Officer and President

Rebecca Lynn Atchison - Chief Financial Officer, Principal Accounting Officer and Secretary

Analysts

Nishant Verma - Morgan Stanley, Research Division

Ralph Schackart - William Blair & Company L.L.C., Research Division

Shelby Taffer - JP Morgan Chase & Co, Research Division

Lloyd Walmsley - Deutsche Bank AG, Research Division

Heath P. Terry - Goldman Sachs Group Inc., Research Division

Herman Leung - Susquehanna Financial Group, LLLP, Research Division

Stephen Ju - Crédit Suisse AG, Research Division

Mark S. Mahaney - Citigroup Inc, Research Division

George I. Askew - Stifel, Nicolaus & Co., Inc., Research Division

Operator

Greetings, and welcome to the HomeAway, Inc. Second Quarter 2012 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Courtney Dickey, HomeAway, Legal. Thank you, Ms. Dickey. You may begin.

Courtney Hicks Dickey

Thank you, and welcome to HomeAway's Second Quarter 2012 Financial Results Conference Call. By now, everyone should have access to the second quarter's earning release, which was distributed today at approximately 4:00 p.m. Eastern Time. If you've not received a copy of the release, it can be found on the Investor Relations tab at www.homeaway.com. This call is being webcast and is available for replay.

In our remarks today, we will include statements that are considered forward looking within the meaning of securities laws. In addition, management may make additional forward-looking statements in response to your questions. Forward-looking statements are based on management's current knowledge and expectations as of today, July 25, 2012, and are subject to certain risks and uncertainties that may cause actual results to differ materially from the forward-looking statements.

A detailed discussion of such risks and uncertainties is contained in our most recent Form 10-Q filed with the SEC on May 4, 2012. HomeAway undertakes no obligation to update any forward-looking statements except as required by law.

On this call, we will refer to non-GAAP measures that were used in combination with GAAP results, provided with additional analytical tools to understand our operations. We have provided reconciliations of non-GAAP to GAAP measures in our earnings release distributed earlier today.

With that, I will hand the call over to HomeAway's Chief Executive Officer and Chairman, Brian Sharples. Brian?

Brian H. Sharples

Thank you, Courtney and good afternoon, everyone. We appreciate your continued interest and support and look forward to sharing our second quarter results with you today.

As of the end of this quarter, we've now been a public company for exactly 1 year, and prior to taking the company public, we went out of the road and laid out a set of strategic and financial goals for the coming 12 months. And I'm very pleased to say that our team has done a terrific job executing on virtually all of these goals during the last year as planned.

With the exception of FX impacts, we have continued to deliver ahead of our original expectations while making significant strides against our long-term strategy and mission. The second quarter marked the continuation of our first quarter performance with revenues and EBITDA exceeding our stated outlook.

Total revenues increased 22% year-on-year to approximately $72 million, and adjusted EBITDA grew 15% year-over-year to over $20 million. Net of foreign exchange, revenues increased by 26% and is reflective of second straight quarter of accelerating sales growth since Q4 of last year, which we're very happy to report.

Free cash flow for the quarter was $18 million. On a trailing 12-month basis free cash flow was $76 million. That's an increase of 34% over the same period last year, leaving us with $221 million in cash and short-term investments in the balance sheet following the acquisition of Top Rural and the investment in Thuja [ph] that we discussed on the call last quarter.

Our performance against our previously stated outlook is especially notable in light of the economic headwinds that persisted throughout the first half of this year and the resulting impact on the euro. Since we provided our initial 2012 outlook in February, the euro has now declined more than 8%, and we've seen even larger percentage declines in foreign exchange in Brazil.

Should the euro remain at these levels, it will most certainly have a continued impact on the remainder of the year, and Lynn, our CFO, will address those impacts in her remarks.

We continue to monitor the broader economic situation in Europe where the status and pace of the market recovery remain still uncertain. But that said, demand levels for vacation rentals are stabilizing somewhat in Europe, with growth rates in visits returning to double digits for most of our sites and for the region as a whole, and even before the acquisition of Top Rural.

Demand levels in North America and rest of world remain healthy, with the business attracting 159 million total visits during the quarter, an overall increase of 20% year-over-year, or 17%, if you exclude the impact from Top Rural.

Expansion of our network continues to be a key driver of growth. Over the course of the quarter, we added another 37,000 listings, bringing our paid listing count at June 30 to approximately 736,000, an increase of over 17% versus the same quarter last year. On a pure organic basis, which excludes Top Rural, paid listings increased 15.5% over the prior-year period.

Average revenue per listing, again, was down slightly on a year-over-year basis from $339 in the prior year period to $336 in Q2 of this year. The decline is due to many of the same reasons that we mentioned in the last call including an increase in PM listings and most importantly, the impact of FX rates, which is a huge driver.

Remember that our average revenue per listing metric does not include revenue from payments, advertising and insurance products, the 3 fastest growing parts of our business. And because there's been some confusion among investors about the true impact of pricing on our subscription business, we're going to provide some additional visibility into subscription revenues per listing.

So for Q2, to make everyone aware, the FX-neutral subscription revenue per subscription listing for our subscription business was $380, which is actually a 6% increase over the same period last year. And as a reminder, our new tiered pricing system is still only in the U.S., and I'll discuss it in a minute. But we've seen in the most recent quarter, a 21% ASP lift on HomeAway.com in the U.S. from tiered pricing, but it'll still take a full year to flow this fully through the revenue metric because of how we do deferred revenue accounting.

After 3 straight quarters of record renewal rates that we've reported to you, the renewal rate for Q2 did decline by 1% to 75%, over 76% in the prior-year period. Half of this is simply explained by the fact that we now include Australia in the calculation for the first time because we've owned that business for a year, and it has a lower renewal rate than some of our other businesses. And the other half of that 1% is primarily related to the softness in Europe across a number of small fronts, not something that we can pin to any one big thing.

In the short term, we have redoubled our efforts across several fronts to increase the flow of inquiries to our European customers, and that should have a positive impact on renewal rates. For instance, late in the quarter, we introduced a new quarterly sorting algorithm in Europe, which is increasing inquiry conversion everywhere it's been launched. These investments, as well as our auto-renew program in Europe should help turn this around in the coming quarters.

The U.S. business, you should know, remains very healthy from a renewal perspective. But given that we've now lapped our auto-renew by 1 year in the U.S. geography, further improvements in renewal rate will come from planned product improvements increasing the efficient demand generation for our owners and property managers and resulting increases in customer satisfaction. But we still remain on our long-term goal obviously, to raise renewal rates in the coming years.

So overall, we're very pleased with our financial performance in the first half of the year, especially given the continued situation in Europe and the resulting foreign exchange impact. But even more exciting for us are the continued progress and success of our long-term strategic initiatives that are laying such a great foundation for several years of growth to come. So I really want to spend the rest of my time talking about those.

Let's start off with tiered pricing. We continue to see very strong uptake of our tiered pricing model on HomeAway.com, which in Q2, generated an ASP lift of approximately 21%. This is a significant increase from the 16% we reported in Q1, thanks to more effective marketing sales to existing customers that I had talked about last time, and it's clearly paying off for the business.

Following the integration of VRBO on our common platform, which is an attraction slated for the end of the summer, we plan to replace VRBO's existing tiered pricing model with the new and simpler HomeAway tiered pricing model, and that creates opportunity for additional listing price upside on VRBO. As a quick example of a highest price point on HomeAway.com is currently more than 45% higher than the current maximum price point on VRBO.

With over 25% of VRBO's paid listings in this highest price bucket, that gives us a lot of upside on our largest brand. And so our other sites, by the end of this year, we still plan to roll out the tiered pricing solutions in HomeAway U.K., Abritel in France and FeWo-direkt in Germany as well. So overall, very pleased with the pricing progress on tiered pricing and our rollout plans.

Next another big one, the VRBO migration. This is obviously a very big and critical project, and I'm happy to report that it's nearing completion. We are in the final stages of adding VRBO to the network in Q3, as expected, and are happy that the majority of the technical risks around this platform consolidation is now behind us. We obviously feel great about this as it provides a platform for a more robust tiered pricing system, new bundled products that I'll discuss more in a minute and overall better experience for property owners, managers and travelers.

Post migration, we will have achieved critical mass with approximately 75% of total listings now accessible on our global platform.

So I mentioned bundles as part of the VRBO migration. Let me talk about that a little bit. Our Global Bundle in Europe and Brazil continue to perform very well, and we plan to introduce a new U.S. bundle that combines HomeAway and VRBO at a single discounted price as soon as the migration is complete, so again, that's in the coming quarter Q3.

Even with some anticipated loss of revenue from customers who currently purchase subscriptions on both sites, our research and experience suggest that the lower pricing, combined with better integration across the sites, should lead to a net positive for revenue over the long term in our business.

Next up is Reservation Manager and our payments platform. Our payments product, still only available for rent by owner customers on VRBO and HomeAway.com in the U.S., but continues to see adoption rates ahead of our internal expectations. Penetration against this audience was over 20% in Q2 versus the 16% we reported in Q1.

For the owners who are behind those listings, we're observing also that those using it to take one or more payments increased significantly in Q2 over Q1. So in short, we're seeing really good traction with the product, and that's something we're super pleased about.

We remain on plan to deliver payments capability for our major sites in Europe in the second half of this year, and sales of our ancillary guarantee and insurance products also continue to perform ahead of our expectations. The results of this strong performance is reflected in the growth of our other revenue category within our financials.

The next strategic initiative I'd like to discuss is a really important one for future growth. So I'm going to spend a little time on it, and very important for the monetization of our business going forward, and that's online booking. I haven't really discussed this much in the past on these calls, but I am pleased to announce that we are putting the finishing touches on our online booking product for customers who are currently using our payments platform. On track to offer in Q3, it enables consumers to check availability, book a property and transmit a payment online all for no booking fee to the traveler.

Online booking will be a capability that's optional for owners, who will now have the ability to add a Book it! button on their listing, and will have 24 hours to accept reservations, so they have adequate time to vet travelers, if necessary, which is very important in the vacation rental category. Our subscription customers will not be charged for additional fees beyond their standard merchant fees that they already pay as part of using our payments platform.

This represents a really big step forward for the company because adoption of this over the next few years will create more accurate calendars on our sites and encourage quick owner response. And overall, we think create a much better and more efficient experience for our travelers. Equally as important, online booking will set the stage for the introduction of a transaction-based pricing model in 2013 that we can use to target new customer segments that are additive to our business.

There are lots of opportunities here, and I'll just give a few examples. For example owners who might want to rent out their property in less frequent basis for events may be more interested in putting up a property and those subscription costs for paying a big bookings fee. Property managers with a large number properties who would rather pay more per transaction than absorb the upfront costs of subscription fees, or even a free or discounted rate for owners who might just want to try us before they commit to a yearly subscription because they're new to the market. So as a result, we expect pay-per-booking to unlock new inventory beyond our traditional subscription model and give us the opportunity to generate incremental revenue from a customer base not currently served by HomeAway.

Our goal on this initiative for the balance of this year is to get the online booking capability launched, followed by the introduction of new transaction-based pricing products by mid-2013. As with all product launches, adoption will take time. So expect some more meaningful impact from these efforts in 2014 and beyond.

In summary, we're proud of the quarter we delivered. We feel quite optimistic about the growth opportunities in the coming quarters, even considering the continuing impacts of foreign exchange.

With that, I will now hand the call over to our CFO, Lynn Atchison, who will give you more detail on the financials and operating metrics in the business. Lynn?

Rebecca Lynn Atchison

Thank you, Brian. I'd like to start off by saying that despite FX headwinds, we had another strong quarter with financial results exceeding our stated expectations.

Total revenue for the quarter was $71.6 million, a 22% increase from $58.7 million in the comparable quarter last year. Growth was 26.3% on FX-neutral basis. While listing revenue growth increased 18.1%, our average revenue per listing was slightly down year-on-year due to FX, as Brian discussed earlier.

During the quarter, we continue to see strong growth in revenues from ancillary products and services. Listing revenue for the quarter was $60.2 million compared to $51 million in the comparable quarter last year. As a percent of total revenues, listing revenues comprised 84.1% compared to 86.9% of total revenues in the second quarter of 2011. We expect to see this gradual trend hold for the full year of 2012 as we increase revenues from our payment platform, advertising and other ancillary product and services at a faster growth rate than that of our listing revenue.

Other revenue, which is comprised of ancillary revenues from owners and travelers, advertising, software and other items, totaled $11.4 million for the quarter compared to $7.7 million in the prior-year period, reflecting growth of 48%. During the second quarter, 60% of our revenue was generated in the United States, 38% in Europe and 2% in Brazil and Australia.

Within Europe, the majority of our revenues were denominated in euros. Since we report our results in U.S. dollars, we currently face and expect to continue to face exposure to movements in foreign currency exchange rates. FX rates moved unfavorably when compared to June of last year, and as a result, revenue growth in the second quarter was negatively impacted by foreign currency translation of approximately $2.5 million.

Now turning to expenses for the June quarter. Total expenses for the quarter, excluding amortization, increased 22.9% year-over-year. Much of the growth in expense relates to increased compensation expense due to a higher number of employees. We ended the quarter with 1,116 employees, up 22.9% from 908 a year ago. The headcount additions were spread across all areas. Within sales and marketing specifically, over 2/3 of the year-over-year increase in headcount was in sales-related areas with the remainder primarily in SEO and product marketing. Increased headcount aside, increased public company costs also contributed to the growth in general administrative expenses.

As discussed in our first quarter call, we begin including phishing claims as part of our Carefree Rental Guarantee starting in 2012. During the quarter, we recorded approximately 300,000 in expenses for guarantee claims, slightly down from what we recorded in the first quarter this year.

During the last conference call, we stated an objective to begin rolling out a new communication system by the end of this year. Because of all that critical launches in the second half of this year, it's far more likely we'll see us roll this out in 2013.

Amortization expenses were $3.3 million or 4.6% of total second quarter revenue compared to 5% of revenue in the second quarter last year. Amortization increased as a result of our acquisition of Top Rural, somewhat offset by the normal runoff and certain intangibles become fully amortized. Additionally, as discussed in our last quarter's call, we began amortizing certain intangible assets in the second quarter that were previously designated with indefinite life. This resulted in additional amortization expense in the second quarter of 2012.

Adjusted EBITDA for the quarter increased 14.5% to $20.8 million from $18.2 million in the same period in 2011. As a percentage of total revenue, adjusted EBITDA margin was a healthy 29.1% for the quarter. Our effective tax rate for the second quarter of 2012 was 57% and 47.1% for the year-to-date period.

As discussed in previous calls, the final rate will be impacted by stock option activity, start-up losses in Switzerland, which are taxed at lower rates, as well as specific reserves associated with our European restructuring. We expect to see the positive results of our restructuring in 2013 with a rate in the mid-30s before stock compensation and trending to the lower 30s in subsequent years. And as a reminder, our actual cash taxes are only expected to be about $9 million for the year.

Other expense of $1.6 million was due primarily to noncash foreign exchange translation losses associated with our intercompany debt agreement denominated in foreign currencies and other balance sheet items, which are marked to period-end exchange rate.

Net income attributable to common stockholders for the second quarter was $2.9 million or $0.03 per share. This compares to a net loss attributable to common stockholders of $6.7 million, or $0.17 per diluted share in the second quarter of last year.

Turning to key business metrics. I'll not repeat Brian's commentary on all business metrics, but I wanted to elaborate on a few items. The increase in paid listings. Paid listings increased 17.4% from last year, 15.5% if you exclude Top Rural. As a reminder, we routinely display listing purchased on one website on multiple websites for the benefit of the owners, managers and travelers.

Also existing for many years in Europe are cross-sells listings, and as discussed, we've recently implemented an EU Bundle and will soon offer a U.S. bundle. Finally, pay-per-lead listings will often come on and off site, many times mid-month and certainly mid-quarter, which can add further complexities to the count. I point these facts out because we know there are some who try to count the number of paid listings on our website to estimate the financial trajectory of the business, which may result in inaccurate assumptions. The number of published and displayed listings does remain a huge competitive advantage for our business as the larger number of listings improve the chance to more travelers to find property that fits their need. This, in turn, leads to more inquiries and ultimately, more listings.

Now turning to the monetization of our listings. As Brian mentioned, foreign exchange rates and increased PPL listings both negatively impacted our second quarter ARPU compared to the prior year. Not including those items, average revenue per listing would have been up 6% year-on-year.

And as Brian highlighted, the migration of VRBO to our common platform, I'd like to spend a few moments discussing the operational and financial implications of the transition. While there are numerous strategic long-term benefits for our customers in the business, I'll focus on the anticipated shorter-term impact to our financial performance and business metrics since we receive a lot of questions from investors.

On the revenue side, we expect to see uplift from VRBO customers electing to purchase a higher-priced Platinum tier and from subsequent purchase of the U.S. or Global Bundle. However, this uplift maybe offset by customers who elect to reduce their spend with us. For instance, a customer who'd traditionally paid full price for both HomeAway and VRBO would soon be able to get a reduced U.S. Bundle price. As a reminder, the revenue will be recognized over the term of the subscription.

On the expense side, we do not expect to see a drop in product and technology costs when this project is complete. We have a significant list of enhancements to the sites to benefit owners and managers, travelers and the company, and we're excited to return to a faster pace of innovation for these types of enhancements.

With respect to business metrics, we expect the paid listings will decrease as a result of the decision of some customers, as Brian suggested, to collapse their multiple listings into one bundle, which will now be considered one paid listing. So our paid listing count and attrition-based renewal rate will likely decline even though the number of property shown on our site hasn't changed. We plan on providing necessary reconciliations, but felt it was important to highlight the shift in advance of the actual consolidation.

We expect the offset to this decline in listings will be higher ASP, the results of 2 listings consolidating into one at a higher price. While we approximate 20% overlap between paid listings on HomeAway.com and VRBO, consolidation listings is dependent upon the timing of the individual owners. And while some may be more active, other owners may wait until their renewal cycle.

Moving on to our balance sheet and cash flow. At June 30, 2012, cash, cash equivalents and short-term investments totaled $221.3 million, and we're debt-free. We ended the quarter with $131.3 million in deferred revenue, which was 15.8% higher than last year. As a reminder, changes in deferred revenue are impacted by both listings, sales and foreign exchange rates, and in the second quarter, by the acquisition of Top Rural. On an FX-neutral basis, deferred revenue would have grown 18.3%.

For the quarter, we generate free cash flow of $18 million, and for the trailing 12 months, $75.7 million, which resulted in 34.1% growth over the comparable trailing 12-month period last year.

Growth in free cash flow was driven by carefully managed growth in operations. For the quarter, net cash provided by operating activities was $21.6 million compared to $19.5 million in the same period last year, an increase of 10.7%.

Capital expenditures including cost associated with internally developed software were $5.5 million for the second quarter. Spending in the quarter reflected the move of our team in Marseille to a new office, the build-out of office space in Osten in Germany, as well as equipment purchase related to planned IP investments.

Now turning to our outlook. As a reminder, when considering our outlook, we have a high degree of visibility into our revenue streams stemming from the recurring nature of our subscription revenues, the accounting for annual subscription, as well as the seasonality of our business. Of course, there is some variability including foreign exchange rates and revenues from other products, which are not sold on a subscription basis.

First, for the upcoming September quarter. Total revenue is expected to be in the range of $72.8 million to $73.6 million, reflecting FX-neutral growth of 24% to 26% over the prior-year period. Adjusted EBITDA is expected to be in a range of $22.6 million to $22.9 million. Our current model assumption includes foreign exchange rate for the euro of 1.21 for each U.S. dollar and reflect the tightening of our range, given the predictability of our business.

For the remainder the year, we've updated our outlook for FX, as follows: Total revenue is now expected to be in a range of $278.6 million to $280.6 million. This results in FX-neutral growth of 24% to 25% over 2011. Adjusted EBITDA is now expected to be in the range of $79.4 million to $80.4 million.

Of note, our over performance relative to our expectations in the second quarter was more than offset by adjustments to our previous FX assumptions.

And to help you with your modeling, a few other estimates: We expect amortization expense to be in a range of $6.6 million to $6.8 million for the remainder of the year. We are currently forecasting an effective tax rate of approximately 54% to 56% for the remainder of the year. Consistent with our last call, we estimate our fully diluted weighted average share count for Q3 and for the full year to be in a range of 85 million to 87 million shares, basic would be 82 million to 84 million. We expect stock-based compensation for the remainder the year to be in the range of $15.5 million to $17.5 million, and with the expansion of offices in France and Spain, along with our website development, we expect capital spending for the remainder of the year to be in range $6 million to $7.5 million.

And with that, I'll turn the call back over to Brian for concluding remarks.

Brian H. Sharples

Okay. Thank you very much, Lynn, and thanks to everyone, again, for participating on the call today. I'm going to open up for questions now. I just want to remind everyone who doesn't know that -- and I guess it's about 3 weeks, so I'll be out at the Pac Crest Annual Technology Forum, which, I believe, is in beautiful Vail, Colorado, and so we hope to see many of you there.

And with that, why don't we open up the lines, and take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Scott Devitt of Morgan Stanley.

Nishant Verma - Morgan Stanley, Research Division

This is actually Nishant Verma from -- for Scott Devitt. I just had a quick question on the tiered pricing. Have you seen any -- I know it's been out for a couple of quarters now, have you seen any increase in churn of -- from the tiered pricing on HomeAway.com? And you've given a stat on the adoption of tiered pricing on HomeAway.com before. I was just wondering what it was this quarter?

Brian H. Sharples

So a couple of things that I mentioned in my script. One was that obviously, tiered pricing, we saw a great uplift during the quarter of 21%. And the second thing I mentioned with respect to renewal rates we're seeing no degradation of renewal rates in the United States, and tiered pricing is only available in the U.S. So if we were going to see an impact that's where we'd see it. So the answer to that question is no. And then in terms of adoption of tiered pricing, I believe we're running somewhere around 25% roughly are adopting to buy an upper tier at the moment, where it is offered.

Operator

Our next question comes from the line of Ralph Schackart of William Blair.

Ralph Schackart - William Blair & Company L.L.C., Research Division

Brian, on the renewal rates, half of the attribution you talked are Europe. Just curious in Europe specifically, if there was something sort of out of your control perhaps, foreclosures or anything new on the competitive front. Just a little more color on that would be great.

Brian H. Sharples

Yes. As I mentioned, there was a 1 point decline and half of that was sort of the calculation bringing to Australia. And so you've got about 0.5 point to explain and it's all -- the explanation out of Europe, and it's not a particular site or a particular brand. It's sort of a lot of a little different situations, and I think I mentioned a couple in the call for -- we have a number of things we're kind of looking at here. I think it's a general softness in the economy. And one thing that people may do to save money in a bad economy is delay their renewals a bit. So we might not know that for a couple of quarters. So we use it, for example, in Europe have short-term subscription products in many sites like 3 and 6 months, and now for the most part, sell annual subscriptions. And so people may stretch their subscriptions by waiting a bit. I think in terms of the U.K., there's probably a little bit of competitive pressure there, again, it's sort of a tiny amount of it. But we've had TripAdvisor with their one own site in the U.K. offering a pretty aggressive GBP 1 per month promotion, and so that may have had a little bit of an impact, and actually, we have a response coming to that fairly soon. And so I would just say in the history of our business over the last 6 years or so, we'll see renewal rates go up or down a point during quarter versus our expectations and that's something that we can usually get our arms around pretty quick, and it's a metric that we can affect by just rolling up our sleeves and working a bit harder. The nice headwind we have coming in Europe is that the third quarter will be the first time that for the full quarter, we have auto renewal in place in that geography. And of course, we've it in the U.S. for the last 4 quarters. And we've gotten a great headwind from that. And so that, in combination with a lot of different -- just a little blocking and tackling efforts give us confidence that it's not something that should be a huge concern.

Operator

Our next question comes from the line of Doug Anmuth of JPMorgan Chase.

Shelby Taffer - JP Morgan Chase & Co, Research Division

This is Shelby Taffer calling in for Doug. EBITDA margins implied in the 3Q guide seemed a bit light relative to the typical sequential uptick in 3Q. Are there any incremental investment we should be aware of aside from the VRBO migration?

Rebecca Lynn Atchison

Now, Shelby, this is Lynn. Say -- one of the things we've done is we've -- especially given what's going on in Europe, I mean, we want to make sure we sustain some marketing into Q3 in Europe. And so that's an example of something that perhaps if you look at last year, marketing may have fallen off a little bit more in Q3 because it's seasonally down. So there's no one big item in Q3 that we're seeing. But you actually do see margin expansion in Q3 and Q4 relative to 1 and 2, and that's because some of the broad reach marketing and other things that are weighted more to the first part of the year will be behind us.

Brian H. Sharples

Yes. I mean, I think that's the biggest thing. We talked about that the last couple of quarters is the year before, our broad reach campaign was just a Q1 event. And this year, we stretched broad reach from Q1 to Q2. And so we knew that, that was going to have margin depression, I think, telegraphed that pretty well, and so that wasn't a surprise.

Rebecca Lynn Atchison

And we're continuing to hire in this year with all the initiatives we have going on. And so those expenses, we'll also fill out the remainder of the year.

Operator

Our next question comes from the line of Lloyd Walmsley of Deutsche Bank.

Lloyd Walmsley - Deutsche Bank AG, Research Division

Just wondering if you could talk a little bit about the ARPU number you gave, excluding FX and pay-per-lead listings. I think you've said last quarter you have a percent of listings as -- that were property manager at around 27%. I guess that's probably up a little bit. And then I would imagine PPL is probably about half of that. But just wondering if you could walk us through some of the dynamics there. And then just the trends you're seeing in the PPL on the property manager side.

Brian H. Sharples

Yes. So the percentage penetration is about the same this quarter, roughly 27%. That's obviously up a lot from the same quarter last year, but kind of holding steady with last quarter. And I will tell you that we're probably a little bit less aggressive with PMs in the second quarter because we had so much going on with respect to our VRBO migration that those bringing on big PMs does take quite a bit of integration work as we're currently configured, and so a little bit of that activity slowed down for the quarter. But with respect to that new metric that I talked about, we wanted to provide some clarity because I think when people are seeing ARPU numbers go down, they've been A, kind of forgetting the fact that a lot of our highest revenue growth categories aren't included in ARPU, and we didn't necessarily solve that today with the new metric. But the thing I was concerned about as people are scratching their heads saying, "Well, if tiered pricing is really taking hold, why aren't we seeing some kind of ARPU lift from that?" And so the new stat I gave, 6%, simply takes out the PPL part of the business, and says, "Look, the majority of our business is a subscription business." So let's look at all subscriptions, both PM and VRBO, so that includes both, and just looks at the average revenue per subscription for those subscribers to give people comfort that yes, those numbers are up, they're up 6%. That's obviously on the backs of us still having virtually no price increases in Europe, just getting tiered pricing started still hasn't flowed through revenue yet. And we wanted to make sure that everybody has some comfort around the fact that our subscription-based pricing based on everything we're doing strategically is not only going up, but it's set to rise hopefully very consistently going forward. So does that answer your question?

Lloyd Walmsley - Deutsche Bank AG, Research Division

Yes. No, that's helpful, and then I guess just along those lines, do you think that getting VRBO under the global platform will make it easier for the PMs to get mass listings under your platform in terms of just automating the process a bit more?

Brian H. Sharples

So there is no question that the PM world can't wait for an easy way to get on VRBO. PMs are, without a doubt, in the U.S. anyway, the most savvy customers that we have, and they understand the power of that platform. So getting VRBO on the global platform and giving them an easy way to get on is absolutely going to be something that's helpful to them. However, there are still lots of tools that we have to develop as a company to make it easy for them to get their listings integrated on a platform. Just because we now have the platforms migrated, still doesn't mean that we have optimal tools for integrating with their system, some of those, which we own, and allowing them to get those listings up quickly and manage them. That was last quarter when we announced kind of a new million dollar-ish effort to step up our spending in the PM space. That was really technologies spend to really ramp our investment in that ease-of-use case, and we've built, since the last time we talked, a really terrific team. We've got some great objectives against that, but they're running now hard on a 2012 plan to put those products in place. And we hope by the end of this year, we'll have a significantly upgraded capability to get them on the sites.

Operator

Our next question comes from the line of Heath Terry of Goldman Sachs.

Heath P. Terry - Goldman Sachs Group Inc., Research Division

I was wondering if you could give us a sense of what kind of penetration you're seeing for payments? I realize it's only rolled out on a smaller part of the site so far. But can you give us a sense of the listings that would be addressable through the payment offering, what kind of penetration that you're seeing, and to what extent you think that may play a role in the online booking offering?

Brian H. Sharples

Yes. So we are, I've got to say, really thrilled with the penetration we're seeing. We reported last quarter that we're at 16%. It's now 3 months later, we're at 21%. So the trajectory is right on track, if not a little better than what we thought. So of the people who had been offered it so far, we've now got 1/5 already using payments, and this product hasn't been out a long time. And I think for us now that payments will transition into online booking, which I talked about, and you're going to start to see Book it! buttons appear on our sites, the pressure is going to start to be on the owners to compete with the booking button because if consumers really want that, which a lot of people think they do, then people are going to need to get a Book it! button to be able to do favorably in a site. In order to get a Book it! button, you're going to have to go the payments capability. And so our plan really has always been that we're going to see some good, steady 1- to 3-year adoption of payments, and then at some point. there's going to be a tipping point, which is what eBay saw with PayPal where it just flips. And whether that tipping point is going to be the end of next year or the end of 2014, I don't think we can accurately predict. But I think what we can say at this time that we feel very confident that it's going to get to where we expected it to get to eventually because seeing 21% penetration at this point in time is really exciting and very favorable for the business.

Heath P. Terry - Goldman Sachs Group Inc., Research Division

Great. You've also got some experience with the pay-per-booking model in your -- in some of your property management software. Can you talk to us about what the take rate looks like? And I realize it's a small part of the business. But what the take rate looks like there and what that potentially tells you about where take rate could go as you transition to a more transaction-driven model.

Brian H. Sharples

Well, we have it running in a very limited fashion in very limited parts of our business for a very limited set of customers that use certain pieces of our software. And the good news is where we do run pay-per-booking, we -- it takes about one booking per year for a pay-per-booking model to be equivalent to or better than a subscription in terms of price. And we're already hitting that with the experiments that we've done on those other sites. So you don't have to get too excited about how many bookings you need to drive in a percentage-driven world to get to an equivalent subscription price. So I think we feel pretty confident that in the future, once we start getting to a model where, let's say, we can charge a 10% for certain classes of customers, that we should be able to pretty successfully drive traffic to those listings and drive ASPs that are higher than subscriptions over time, and that'll take us, not only getting them on the site, getting them exposed on the sites, but also getting good that the kind of things that people like booking.com are good, which is like going out and buying effective marketing against those listings and really driving people to them. And so those are all the skills that we're going to need to now learn and develop. And I do want to be clear though that just because we've announced that online bookings coming in Q3, the actual model where we start to look at charging a commission, let's say, instead of a subscription, it's something that we're targeting for some time around mid-2013. So this Q3 rollout gives us that capability, but then there's a whole set of products that we're going to have to roll out in the coming months that will then get us to some of the commission-based things that you might find interesting and exciting and upside for the business.

Operator

[Operator Instructions] Our next question comes from Herman Leung of Susquehanna.

Herman Leung - Susquehanna Financial Group, LLLP, Research Division

Two quick questions. First, I guess along the lines of the transaction-based business model that you guys are planning to switch over on, I guess, portions of it by mid-2013, how do you think that changes the dynamic from property manager standpoint, or just the subscriber standpoint from an ROI standpoint? Do you think they would opt to be more on the transactional side? And what sort of impact do you think in terms of visibility of the model that we can see as we progress into the later years? And I have a quick follow-up.

Brian H. Sharples

Well, good question. I think switch is probably too strong a word and a little bit inappropriate in this case. I actually don't think -- if you look at the majority of our customers, they are very, very satisfied with the subscription-based model, and switching, in most cases, to let's say a percentage-driven model, would result in them paying more. And it's one of the reasons that we, frankly, don't worry a whole lot about losing the vast majority of our customer base to other people who have kind of free commission-based models. What we're really targeting with this product are new segments of the market that we don't address today. Now it turns out that one of those segments probably are property managers who aren't comfortable writing big checks at the beginning of the year because they would feel more comfortable paying on a percentage basis. And there are other classes of inventory that fall into that category within the vacation rental industry that also have those characteristics. So I don't expect to see sort of a massive amount of switching per se, but I do see us getting very aggressive about using that capability to expand the kind of inventory we have on our sites. And clearly, property managers are going to be a big target for that. And I guess if there's any switching in the property management space, I would expect that we probably see property managers who do PPL today switch into a pay-per-booking model because bookings are more certain than buying leads. There's a lot of complexity with leads that come across, and whether they're duplicate leads or leads they've seen before and things like that, so I think they'll be more comfortable. But our modeling of that also says and if we charge on a bookings basis, we should be better off in the long run than charging on a pay-per-lead basis. So that's the situation where it should work well for both of us.

Herman Leung - Susquehanna Financial Group, LLLP, Research Division

Great. And then just quick follow-up. I think you talked about a new algo that you guys launched in Europe. And just maybe if you can give us a little bit more color. i guess you mentioned a few things about Europe, which is the new algo, auto-renew seems a little bit lighter, there's a little bit of competitive pressures in the U.K. from TripAdvisor. I guess, after gathering all those things together, what's that 2 or 3 things that -- or there's probably a whole bunch more, that you plan to do, I guess, in the back half of this year to try to help mitigate some of the FX headwinds and some of the European pressures from that front?

Brian H. Sharples

Yes. I mean, I think the very simple thing to understand about our business is that renewal rates and owner satisfaction is almost entirely driven by inquiries and renewals. And we model it each and every quarter, and it's always a pretty tight relationship. And so if we want to increase owner satisfaction and renewal rates, then what we try to do is deliver more business to them. You've got -- well, traffic is actually improving in Europe, which is great. I mean, we see accelerating traffic growth in Europe. We wish it was better. And so the one tool we have is how do we take that traffic, and how do we convert it better in inquiries. And so our teams do what any good Internet companies do. I mean, they're constantly testing how they can play with sort, how they can play with pages, how they can play with anything that improves conversion. And one of things that I did mention the call was that we've have a very successful recent launch of a new quality sorting algorithm that takes things like photos and reviews and mapping and calendars and tries to present to travelers the highest-quality listings that we have on our sites. So in effect, rewarding owners who do those things and then in turn, that creates the loop where we can go back to owners and tell them that they are being rewarded if they do those things and it improves quality in their site. And what we're finding is if your improve quality of listings, you do improve inquiry conversion. So our expectation is if we continue to do that, inquiry conversion will go up. If inquiry conversion goes up, then owners will be satisfied. And I think you make a really good point too about the competitive pressures. Most of our research suggests that even if that other companies out there offering listings for $1 or free, in the end, that really doesn't matter to our owners if they're making tens of thousands of dollars a year in our sites. They're not going to jump to another site just to save money. We do know for a fact that our U.K. business has performed better than TripAdvisor U.K. businesses. But some people see the marketing and on the margin may go take a flyer and give it a try for a while. But as long as we keep delivering, they'll always come back to us. And so that's why I love the focus of our business, it's all we do, we do it really well, we do it better than anybody. And if we continue to do that, I feel very confident that our position will remain very solid.

Operator

Our next question comes from the line of Stephen Ju of Crédit Suisse.

Stephen Ju - Crédit Suisse AG, Research Division

Brian, when subscribers decide to renew and reach for an upper tier, which tranche are they most commonly selecting? And secondarily, that once you roll out a pay-per-booking model during the third quarter of next year, how are your search results be sorted in relation to the property owners remaining on a subscription basis in the various tiers? And, Lynn, can you give us some additional color on the ARPU growth? Do you have that same metric for the first quarter of this year, as well as the fourth quarter, apples-to-apples with the 6%?

Brian H. Sharples

Maybe you to say the second question again because someone was whispering in my ear, but let me start with the first one. When people do offer tiers, we're actually seeing a pretty even distribution across tiers. What you expect the highest is in the next tier up, right? So we have the highest adoption the next tier up because people are, every way, starting at 0. So you'd expect -- it's like a race. And people are starting off in the race and they're jumping up to the next one. But I will tell you, the adoption rate of the top 2 tiers, Gold and Platinum, is as high in percentage terms as that jump up to the next tier. So we've been pleasantly surprised by how many people have just gone kind of straight to the top. And our expectations is that as time goes by, competition will lead to people steadily moving up. So, so far, it's been pretty equal, which I think says we priced it more or less right. And what was the second question, Stephen?

Stephen Ju - Crédit Suisse AG, Research Division

Yes. The second question is once you rollout a pay-per-booking model in the third quarter of next year, how will your sorting algorithm work now in relation to the people who work on the still -- the various tranches under the subscription model?

Brian H. Sharples

Well. when we ultimately get to a pay-per-booking model, we will have the same ability, I guess, that any OTA does, which is if you're not paying to be on our sites, but you're paying us a percentage, it's up to us to determine where we place you on the site. If you're a subscriber, you can pay money to guarantee that you're going to be here or there. But if you're on the sites for free, then it becomes our revenue management capability that makes that happen. Now obviously, if those listings earn us a lot of money, we're going to get very sophisticated about revenue management, so that we can put those listings in the places that they will perform best. We're always going to have to trade-off between those listings and our paying subscribers. So if our paying subscribers are averaging x number of inquiries per year, we're not going to try to sacrifice them to generate revenue on the pay-per-booking side. We're going to try to do everything we can to make sure that the subscriber's experience continues to get better, while at the same time, on the margin inserting those other listings at times of the day, times of the week, places on the sites, all around the world where they can generate incremental revenue for us. And that's something that, again, it's a capability we're going to have to build and get good at, but this is something that OTAs have certainly done. Some do it more sophisticated than others, but we've got a really strong team, the smart people here. And think that's something we'll get good at. By the way, one other comment I just wanted to make that somebody had just dropped me a note is that when you're asking about these tiers that we've seen, we are ready because when we started selling tiers, we were selling partial subscriptions to the tiers. So if you have, let's say, 3 months left in your subscription, you can upgrade to a Platinum, and then you come up for renewal. We've already had hundreds and hundreds of customers who bought tiers come up for renewal. And one thing I hadn't seen until just this moment is that at our Platinum tier, the renewal rate of people who have bought that tier and then come back again to resubscribe is like 95%, which means that the satisfaction rate of people who have bought at the top of the funnel is extremely high, and that bodes really, really well for tiered pricing in the future. And then...

Rebecca Lynn Atchison

I got the other number, Stephen. If that number -- the average subscription revenue per subscription in Q1 was -- the growth year-over-year was about 2%. So that's your apples-to-apples comparison, 2% to 6%, Q1 to Q2.

Operator

Our next question comes from George Askew of Stifel, Nicolaus.

Brian H. Sharples

George, it looks like you may have swapped out for somebody else, so maybe we take Mark's call.

Operator

Our next question comes from the line of Mark Mahaney of Citigroup.

Mark S. Mahaney - Citigroup Inc, Research Division

Two questions. Just in terms of implementing the online booking feature on a commission basis. What's the rationale for waiting until into the middle of next year? Is it that -- is that a technology issue, or is that kind of a business model decision issue? And then in terms of the weakness in Europe, just if you could talk about where, if you -- to the extent that you've seen macro weaknesses in the obvious places greater in Southern Europe than in Northern Europe? Any color there would be great.

Brian H. Sharples

Sure. Mark, it's really -- we're doing a lot of stuff issue here at the company. If you look at our road map for the second half of this year, and I know even some of you have written warnings that HomeAway is trying to do too much during the second half. We do have a lot going on, everything from our migrations to getting tiered pricing on our sites to now launching online booking, which is something that I know you probably all didn't expect in Q3, but we've been able to get that on the road map and get it out. And so there's limited resources to do all these things. But with respect to online booking, the first thing we have to do is make sure that system works well. We expect a lot cash to flow through it. We got to make sure the money is all going to the right places. And before we start bringing on customers based purely on that model, we've just got to get that model stabilized in the first place. Now the second part of it is that because it's our intent, really, to target new segments, not just go out to our customer base and say, "Here -- here's an alternative for you," we will actually go target new segments, well targeting new segments that requires having a -- segmenting the market, having a plan for selling them, communicating with them, getting our message out to them and then setting up the whole customer service and sales capability to be able to deal with them. And so that just takes time. It's not intellectually a hard thing for us to get to, but it's just a business planning exercise. I mean, think of it, if you will, as a start-up business that starting in Q3, when we have the capability, we now have start up we've got to generate, which is a new kind of model for the company. And so to take 6 to 9 months to start up a new business and do it right can seems pretty reasonable. Now what's the second question?

Rebecca Lynn Atchison

Color on Europe. Just...

Brian H. Sharples

The color on Europe. It's funny we look at traffic. I was just doing this about an hour ago with our BI guys and looking at renewal rates. It's pretty much spread out across the board. There really isn't any region that's doing terrible relative to another. It's just a very sort of small percentage decline that we see across the board in those markets. As I mentioned earlier, probably U.K. is the only one where our GMs report that they've got a competitor that's a little bit of a pain because of their pricing model. So that might be the one place that has a different characteristic. But in general, and I think the good news is even on the traffic front, the traffic, if you go back to Q4, got pretty light across Europe. And then when I said we're seeing it accelerating this quarter, it accelerated in virtually every geography in Europe except for one, I think, which I want to say is -- what was it? Yes, down in Southern Europe. But Southern Europe is an area where we're kind of new to that business, and we've been experiencing triple-digit growth rates. And so it's not actually unusual that, that growth rate's going to start coming down because it's less of a start-up environment now than it was. So unfortunately, I can't give you too much more color there.

Operator

Our final question of today comes from the line of Yin Zim (sic) [Zim Yin] of Stifel, Nicolaus.

George I. Askew - Stifel, Nicolaus & Co., Inc., Research Division

It's George Askew in for Zim Yin. You mentioned that online booking course will be in place by the end of this quarter. Will the initial rollout be with property owners -- I mean, property managers or with vacation property owners?

Brian H. Sharples

It will be with property owners. So if you are on our payments platform, you will be offered the ability to put a Book it! button on your listing that when clicked, will allow a traveler to put in dates, configure reservation, get a quote, throw in a credit card, and then you, as an owner, will be able to automate your response within 24 hours to that online booking. So that's the first segment that it will go against. And of course, the next thing we'll do is we'll start marketing that capability for people who don't have payments to get them to have payments. And that will be then followed by the initiatives to get online booking to the PMs, which has a lot to do, again, with the investments I talked about that we're working on in the second half of this year.

George I. Askew - Stifel, Nicolaus & Co., Inc., Research Division

Got it. And then secondly, you obviously have a number of initiatives and product cycles as we call them in place that you outlined. Do you see any of your competitors' sort of mimicking some of these initiatives?

Brian H. Sharples

Well, I mean, we still -- I mean, from a competitive standpoint, the only 2 companies we seem to ever talk about is TripAdvisor, which obviously, isn't as heavily focused on the category as we are. And they seem to be more innovative right now in terms of coming up with low pricing options to get people on their sites than some of the things that we're working on here. Although they did just recently launch a new payments capability in the U.K. So they've essentially matched us on the payments front. And then Airbnb is the other company that's often mentioned, but again, we continue to see them operating in a very different segment of primary homes against a very different audience. Clearly, they already have online booking capability because that's the basis of how their business operates. So I guess in that regard, you could probably say we're mimicking them.

Operator

Thank you. That was our final question of today. Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at this time, and thank you for your participation. Have a wonderful day.

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