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The Short Case For International, Ltd.

|About: International, Ltd. (CTRP), Includes: LONG, QUNR
Summary has become the dominant online travel agency in China, driven by acquisitions and investments that were financed with debt.

In January 2016, CTRP announced an additional investments of $1.3 billion and 43.2 million ADS, mostly into Qunar and eLong. We anticipate debt to grow to $4.8 billion, and Total.

Slower Chinese growth will impact consumer spending. CTRP faces a difficult year, and yet the stock is priced for perfection. Any EPS surprises from CTRP in 2016 are likely to

Elevator Pitch (NASDAQ:CTRP) Declining Chinese growth, high debt, integration issues with recent acquisitions that are losing money. Long term positioning in the industry is favorable but high risk for fundamental performance in 2016. Initiate coverage with SELL rating.

Company Description provides travel services for hotel accommodations, ticketing services, packaged tours and corporate travel management in China. It also offers bundled tour products with various transportation arrangements including a cruise, bus, or self-driving. Integrated services include transportation at destination sites, visa services, tour guides, and car rental services, air ticket delivery, online check-in, and online s

Thesis & Catalyst For International, Ltd.

INVESTMENT THESIS  has become the dominant online travel agency in China, driven by acquisitions and investments that were financed with debt.  In January 2016, CTRP announced an additional investments of $1.3 billion and 43.2 million ADS, mostly into Qunar and eLong. We anticipate debt to grow to $4.8 billion, and Total D/E will be 234%.  We believe the recent investment announcements substantially increases the fundamental operating risk for CTRP which is facing slower industry growth in the next few quarters. Qunar and eLong have both posted expanding losses in the past few years.  Slower Chinese growth will impact consumer spending. CTRP faces a difficult year, and yet the stock is priced for perfection. Any EPS surprises from CTRP in 2016 are likely to be negative.  We forecast above consensus EPS for 2016 of $0.47, which provides a cushion to our short call. RISKS  Growth in Chinese consumer spending may not slow down despite slower economic growth.  Operating performance at subsidiaries may improve at a faster pace in 2016 than we anticipate.

BUSINESS OVERVIEW & SHORT THESIS has become the leader in the online travel agency industry in China with a primary focus on the consumer market. The company has accelerated its growth through investments in other travel agencies and in VIEs (variable interest entities) which are essentially subsidiaries that are consolidated on CTRP financials reports based on the ownership percentage. The strong expansion of the past few years was financed with debt. In January, 2016, CTRP announced increases in its investments in two publicly traded companies that compete in the space. Both of these companies are performing poorly, so is reaching for revenue growth. We question whether the timing of the increased investment is appropriate in the face of slower Chinese growth and an already highly levered balance sheet.

The growth in air traffic passenger in China has been stable at about 10% but we anticipate 2016 will be different. We expect slowing economic growth in China will negatively impact hiring and consumer discretionary spending.

Wall Street loves CTRP - supporting the company due to an active need for capital. We anticipate additional debt and greater share dilution in Q116. High debt, investment in operations posting losses, the high likelihood of slowing growth in demand in the coming quarters, and an exceptionally high valuation lead us to initiate coverage of CTRP with a SELL rating. is positioning itself to benefit from growth in the Chinese consumer travel markets, but the cost in the short term is not reflected in the current valuation.

Our EPS forecast is above consensus, providing cushion to our short call. We forecast pro-forma EPS of $0.20 in 2016 and $0.47 in 2017. We re-initiate coverage with a SELL rating and a price target of $27.50


 Recent investments point to huge challenges in 2016. On January 13, 2016, announced an investment of $1.3 billion cash and issue 5.4 million ordinary shares to increase its ownership of Qunar (NASDAQ:QUNR) and eLong (NASDAQ:LONG). CTRP has owned a minority stake in QUNR and the two firms have a history of animosity. CTRP will "acquire a significant minority stake" in QUNR, giving CTRP a majority stake in QUNR. This announcement is on the heels of the announced partnership in October 2015 when CTRP gained a 45% voting interest in QUNR, and Baidu, which is a part owner of QUNR received a 25% ownership in CTRP.

As owner of a majority stake in QUNR, future filings will consolidate Qunar results. In the past few years QUNR has consistently reported expanding losses even while revenue growth has been strong.

Chart 1: CTRP investment in Qunar creates challenges










2012 2013 2014 2015E

$ Million

QUNAR Revenues & Net Income

Revenue CAGR = 96.8%

Net Inc CAGR = (237.9)%

Gregory P. Garner, CFA | 3

 Increased likelihood of missing EPS estimates. With the huge losses QUNR has been reporting, CTRP may be biting off more than it can chew. The impact of consolidating Qunar's performance is difficult to accurately assess but we believe it significantly increases the likelihood of quarterly EPS misses in 2016. The investment in Qunar has parameters for a serious management shake-up and with any slowdown in end market growth, a management shakeup could be further disruptive. The fundamental performance of eLong has also been poor. is taking on huge integration issues during a time when industry revenue growth is likely to slow. We believe a more opportune time to expand its presence in the consumer travel market would likely occur later in 2016. By increasing its stake in these two companies, CTRP ensures it will have greater control of the online travel agency market, but at the price of poor fundamental performance for shareholders in 2016.

Chart 2: LONG fundamentals point to a tough integration

 is highly exposed to any slowdown in consumer spending growth. Revenue channel contributions have been relatively stable in the last few years, with 92% to 94% of revenues from three channels that serves consumers: Accommodation Reservation, Transport Ticketing, and Packaged Tour. The high exposure to consumer discretionary spending leaves the company very exposed to any slowdown in the growth of Chinese consumer spending.

Chart 3: CTRP Revenue Channels







2014 2015 2016E

Revenue Channels

Accomodation Reservations

Transportation Ticketing

Packaged Tour

Corporate Travel


4 | Gregory P. Garner, CFA

The recent investments maintains's exposure to the consumer sector. QUNR operates an online travel commerce platform in China for flight tickets, hotels and travel packages. LONG provides travel and booking information to mobile devices.

 High debt exaggerates any operational issues in 2016. CTRP reported $3.56 billion in debt at the end of Q3:15, and $2.54 million of cash and equivalents. The company has utilized debt markets at an opportune time, but leverage has increased to the point of a choke hold. Pre-tax interest coverage has declined from 82.3x in FY:12 to 2.4x in FY:14. From FY:12 through Q3:15, total debt has increased at a compounded rate of 161.8% while cash and equivalents has increased at a 54.1% rate. Non-cash working capital (current assets less cash minus current liabilities) has increased from $(300) million at the end of 2012 to $(1.63) billion at the end of Q3:15. Growth in short term debt of $850 million has been a primary contributor to the declining working capital. DSO's have ranged from 85 to 104 days on a quarterly basis in the past two years, and were at 98 days in Q3:15.

Chart 4: D/E = 175%, Growing to 234% in Q116. Net Debt > $1 billion in Q315.






Dec 2012 Dec 2013 Dec 2014 Sep 2015 Mar 2016E

$ Million

Growth in Debt And Cash

Total Debt Cash & Equiv

Debt CAGR = 161.8% Dec 12 to Sep 15

$4.8 billion

 Additional debt and higher equity dilution in 2016. CTRP noted its plan to issue $1.3 billion in new debt for its investments, which we estimate to bring total debt to $4.8 billion. Total Debt/Equity will rise to 234%, according to our forecast. noted 5.4 million ordinary shares will be issued to support the investments announced in January 2016. This correlates to 43.2 million diluted shares for US investors, since there is an 8:1 ratio for ADS to ordinary shares. The new share count is an 11.5% dilution by our estimate.

 What is China's real growth? One of the primary reasons for our short call on CTRP is the unknown economic growth path for China. Economic metrics from the PRC are questionable and there is a history of overstating real growth. The PRC is attempting to slow excesses in the banking and loan industries, which can have far reaching implications throughout the economy. It has been widely reported over several years, most recently in The Wall Street Journal, January 27, 2016, that China is "littered with zombie factories, empty apartment blocks, mothballed power stations and other infrastructure that nobody needs."

Reducing country sponsored capital investments leads to slower hiring. As Chinese labor costs increase, other Asian countries better compete for manufacturing. A declining Chinese Yuan can help but at a local cost to consumers who experience higher inflation. A declining equity market reduces business and consumer confidence. All of these put pressure on hiring. When consumers and businesses need to curtail spending, extra expense items such as travel are the easiest to cut.

Gregory P. Garner, CFA | 5

 What will happen to the Chinese Yuan? One way out of the infrastructure overhang and increasing wage pressures in China is to devalue the Chinese Yuan. The Chinese adamantly state this will not occur, but such rhetoric is common before currency declines. The orientation of centralized control over economic events is ingrained in Chinese government, as evidenced by the intervention to attempt to prop up the currency and Chinese equity markets. Both have resulted in depleting the countries reserves by approximately one third, but only the Yuan is benefiting due to the lack of free trading currency. The WSJ reports on January 27, 2016 that

"The smart Chinese money is nervous; the central bank is struggling against a tide of capital heading for the exits. Individuals are shipping out portions of their wealth. Some corporations that borrowed offshore in dollars are repaying the money early, adding to the outflow. And China is hemorrhaging reserves to try to prevent the yuan from falling even more sharply."

As Chinese capital exits the country, it will be difficult for the Yuan to stay at current levels. Any decline in the Yuan will reduce the value of US based ADS that relate to Chinese companies. In our opinion, the higher valued companies will be hit hardest, which includes CTRP.

 Passenger growth has been stable at 10% annually, likely to slow. Chinese air traffic passenger growth has been stable in the past three years, according to the US World Bank Data. From 2011 through 2014, annual growth has been in the 9.0% to 10.8% range. Data is from domestic and international passengers of carriers registered in China. We believe this is the best view into domestic demand for travel services in China. During this time period, Chinese reported economic growth in the 7% to 7.5% range. As China GDP declines to the 4% to 6% range, we anticipate a decline in domestic travel demand growth. Disruptions in growth are not likely to be smooth, and due to the macro items mentioned above, we expect any sharp adjustment downward is likely to occur in 2016.

 Potential increasing capital requirements if China allow foreign investment. CTRP has loaned funds to its VIEs to support operations. CTRP owns the controlling interest of the VIEs and the agreement between CTRP and the VIEs indicates that if the PRC were to allow foreign investment in the Chinese travel agency industry, that CTRP has the right to purchase the rest of the equity and write off the debt. Since the loan was made by CTRP, such an event has a double whammy on the finances of CTRP - the debt would never be repaid if written off and there will be a capital requirement to purchase the remaining equity not yet owned by CTRP.

 Evidence from Q4:15 reports supports our Short Thesis. Many companies have reported or guided for slowing revenue or EPS due to weakness in China. Apple reported a strong Q4:15 but indicated a weaker than expected outlook due to softening demand in China. Apples comments directly relate to consumer spending. Weaker casino activity in both Macau and Las Vegas has been attributed to declines from Chinese consumers. Travel by consumers is likely to show similar trends of slowing growth in the coming quarters.

 is a great investment banking client. CTRP is widely followed on Wall Street with 16 analysts reporting EPS estimates for 2016. The consensus estimate of $0.45 for 2016 is up over 100% from our pro-forma estimate of $0.20 in 2015. Of the 26 brokerage houses reporting a recommendation, 21 rank CTRP a Buy or Strong Buy. Price targets from Wall Street analysts have declined recently, but remain far too bullish, in our opinion. Recent announcements of $1.3 billion cash investments along with 5.4 million additional ordinary shares (43.5 million ADS) is enough to make any investment banker hungry for CTRP business, particularly in light of dearth of banking deals in recent months.

 Recent trading support is poised to wane in coming months. Inclusion in the NASDAQ-100 index brought in new owners of CTRP, which gave the stock support in late 2015. Wall Street analysts will support the stock in the short term as funding requirements exist. But will the fundamentals over the next six to nine months provide enough support for a PE multiple approaching 100x? We doubt it. We believe sustainable growth is in the 25 - 35% range, which the company will reach later in 2016, and a healthy PEG ratio of 2.0 defines a significant decline from current valuation. The short term catalyst - any quarterly hiccup or more news of slower Chinese growth. Recent leveraging up with investments in VIEs makes quarterly hiccups more likely.

 Recent EPS and our estimates: reported GAAP EPS $1.07 in Q315 driven by strong revenue growth and improving margins. We calculate a pro-forma EPS of $0.14 in Q315. There was a large gain from recognizing $377 million, or $0.93 per ADS from the deconsolidation of, the Chinese version of Airbnb. A new funding round at led to Ctrp's loss of control.

6 | Gregory P. Garner, CFA

We estimate FY16 pro-forma EPS of $0.20, and GAAP EPS of $1.10. We have purposely been generous in our forecast to provide some leeway in our SELL call. Consensus estimates for FY15 are $1.07. For 2016, we forecast revenues of $2.4 billion and EPS of $0.47. The consensus estimate is for revenues of $2.38 billion and EPS of $0.45. We view our estimates as a ceiling for CTRP since there is a high likelihood of an EPS miss due to the issues in China outlined above, and any company specific problems with the large investments.


CTRP trades at 205x our pro-forma 2015 estimate of $0.20, at 81x our 2016 estimate of $0.49, at 7.5x book value and 8.9x sales (based on our 2015 estimate). As a high growth company, we value the company based on PE and PEG ratios and compare this with our DCF methodology. During high growth phases, many companies can trade at twice the sustainable growth rate and when there are growth spurts, PE valuations can match that growth rate. CTRP has done just that, but at excessively high levels in our opinion, particularly for a Chinese company.

CTRP traded in a range of $21.93 to $55.84 in 2015, representing a PE range of 110x to 285x based on our proforma 2015 EPS of $0.20, which is well above the consensus of $0.14 (pro-forma) . We believe 2015 was the peak year for high multiple valuation since revenue and EPS growth were strong and increasing. For 2016, we expect declining growth rates through the year, which typically causes investors to shift the growth focus to what is sustainable in the long term.

We chart out the annual growth inherent in our forecast for FY16 for each of the next four quarters. EPS growth is abnormally high in Q116 due to the comparison to a weak Q115. High revenue growth in Q116 through Q316 is driven by recent investments, which are both a) unsustainable, and in the short term b) it significantly increases the likelihood of an EPS miss. Separate from company operations, any slowing in Chinese consumer spending growth will put pressure on Ctrip's earnings.

Revenue & EPS Outlook

FYE DEC 2014A 2015E 2016E EPS($) ACTUAL CURRENT PREVIOUS CURRENT PREVIOUS Q1 Mar $0.06A $(0.06)A $0.07E Q3 Jun 0.07A 0.07A 0.14E Q3 Sep 0.07A 0.14A 0.22E Q4 Dec (0.15)A 0.03E 0.04E Year* $0.07A $0.20E $0.47E P/E Ratio 582x 209x 87.4x Change 87% 178% 139%

FYE DEC 2014A 2015E 2015E Revenue ($ mil.) ACTUAL CURRENT PREVIOUS CURRENT PREVIOUS Q1 Mar $254.4A $373.4A $548.9E Q3 Jun 276.9A 407.6A 591.0E Q3 Sep 346.9A 500.5A 720.9E Q4 Dec 308.5A 432.3E 557.7E Year* $1,187.4E $1,713.9E $2,418.5E Change 35.0% 44.1% 41%

* Numbers may not add up due to rounding. * EPS is Pro-forma, GAAP and Pro-forma data in our forecast

Variant View

RISKS  Growth in Chinese consumer spending may not slow down despite slower economic growth.  Operating performance at subsidiaries may improve at a faster pace in 2016 than we anticipate.


 China may sufficiently stimulate its economy. This would entail a reverse of recent pronouncements by the PRC. China is attempting to manage the slowdown by reducing its impact. This may cause consumer confidence not to decline as much as we anticipate.

 Recent investments in other online platforms may not be as negative in the short term as anticipated. We expect the increases in operating control of Qunar and eLong will cause typical integration issues which can drive up expenses for a few quarters to much higher than anticipated levels. CTRP may me more effective than we expect and lower operating costs at QUNR and LONG, which are currently reporting operating losses.

 Passenger growth may not slow. Air traffic passenger growth has been very strong in the last few years at 10%, and we anticipate this will slow as China's economic growth ratchets down. Consumer air traffic growth may be the one bright spot in consumer spending in that the growth may not decline.

 Debt may decline. CTRP is highly leveraged with a Total Debt/Equity ratio of 175% The company may decide to pay down or restructure its debt on more favorable terms (we doubt terms can improve much from the low interest rate environment). We do expect debt ratios and interest coverage ratios to get worse in 2016 and then improve in the 2017 to 2019 timeframe, which points to 2016 as a high risk operating timeframe.

 Investors may look beyond issues in 2016. CTRP faces a high risk period in 2016 due to items mentioned. Investors may look beyond 2016 and focus on operating improvements to come after a difficult 2016.

Disclosure: I am/we are short CTRP.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.