What To Do With Priceline?

| About: Booking Holdings (BKNG)
This article is now exclusive for PRO subscribers.

In this earnings season, one company after another blamed the economic weakness in Europe for the deceleration in their growth rates. After companies like Ford (NYSE:F), Nike (NYSE:NKE) and Apple (NASDAQ:AAPL), Priceline (PCLN) also joined the camp of companies suffering from the European recession. Priceline also counted the strong US Dollar as one of the reasons for the disappointing earnings figures. The company sees a decelerating growth rate in the next few quarters and this trend is not likely to change until European economy can get on track (which in my personal view will take multiple years to accomplish).

In the last few years, Priceline had an impressive amount of growth. The company's rally in the last couple years was very similar to the one in late 1990s during the dot.com boom, with the exception that this time the rally was tied to fundamentals rather than pure speculation. In the last decade, the earnings of the company grew at such a high rate that a possible 30% growth rate looks like a disappointing figure at the moment. In the next quarter Priceline expects its international bookings to grow by 25-30%, whereas the analysts were expecting a figure near 50%. The company generates a significant portion of its revenues from Europe and the slowness in Europe might hurt growth prospects of the company in the near term.

In the last quarter, Priceline posted an earnings growth of 37% compared to the same period a year ago. This may sound impressive, however it fells far below the growth rate in the last several quarters. Many analysts and investors fear that the company's growth might slow down from here as the company nears maturity. Another issue for Priceline is presented by increased pressure from the competition such as Expedia and Orbitz. Currently the company enjoys a strong market share in North America and Europe and its market share seems to be stabilizing. For the time being, Priceline will have to seek growth in markets outside of Europe such as Latin America and Asia in order to keep its momentum going.

It is hard to tell how much of the deceleration in Priceline's earnings growth is due to the temporary economic conditions and how much of it is due to other pressures such as competition. The answer to this question will determine whether Priceline is still a buy or not. One day after Priceline, Orbitz announced very similar results, hinting that the problem might be across the industry and not specific to Priceline alone.

Most analysts covering the stock have lowered their earnings expectations for Priceline. The analysts now expect the company to earn $28.77 this year, $34.54 next year and $40.34 in 2014. Given the company's current share price of $559, we are looking at forward P/E ratios of 19, 16 and 14 for the next 3 years. This is not bad considering the $3.94 billion of cash and short term investments held by the company. The company's long term debt sits at $938 million. When a company has a strong balance sheet coupled with double-digit annual growth, it can sustain a relatively high P/E ratio compared to one with a weaker balance sheet and lower rate of growth.

Priceline is currently far away from its 52-week high price of $775 per share. To be precise, the company's current share price of $559 is 28% lower than the company's 52-week high. The analysts have a wide range of price targets between $615 and $760 for the company, with the average price target sitting at $693. Goldman Sachs (NYSE:GS) recently reduced its price target from $860 to $760, keeping the "buy" rating. Discounting for the company's liquid assets and assigning a P/E ratio south of 20 would give the company a target range around $650 for the next 12 months.

Now back to the question, what do we do with Priceline? Younger investors will find a lot of growth potential in the company. While the company's growth rate was below the analyst expectations, it was still impressively high. This company will keep growing at a double-digit rate for at least 5-6 years and it is far from maturity. If you've been waiting to get in Priceline, this is a good time to get in. On the other hand, if you are ready to retire within a couple years and don't want to wait 3-4 years to get a return on your investment, I suggest that you choose a less volatile growth company such as Apple. Despite the recent plunge in its share price, Priceline is not a value stock; it is a pure growth stock and will continue to be for a while. This is important to keep in mind before investing in this company.

Those who can afford to buy at least 100 shares of this company should reduce their risk by writing covered calls. Currently, the calls that expire in January 2013 with a strike price of $600 yield a premium of $36.40 which provides protection until the stock price falls below $522.

Disclosure: I am long PCLN, F, AAPL.