What the Expedia-Travelocity Deal Says About Online Travel

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Last week, Expedia Inc. (NASDAQ:EXPE) announced it was acquiring competing travel-booking site Travelocity from current owner, Sabre Corp. (NASDAQ:SABR), for $280 million in cash. It’s only one in a long list of assimilations that Tripadvisor Inc. (NASDAQ:TRIP), Priceline Group Inc. (NASDAQ:PCLN) and Expedia have made within the online travel agency space over the past couple of years.

expedia stock expeIn fact, given the sheer number of such announcements investors have heard from Expedia and its peers since 2012, it’s almost tough to believe there are any competing online booking companies left to purchase. But there are, and a closer look at some key numbers suggests we’ve only scratched the surface of the industry’s consolidation.

Moreover, a closer look at some key numbers also reveals Expedia, Priceline and Tripadvisor would be crazy to not remain in M&A mode.

What Expedia is Really Getting With Travelocity

The integration of ravelocity into the Expedia family won’t be a tough one. EXPE already provides the booking backbone for Travelocity (which owns Hotels.com, Hotwire and Trivago), and has already said it has no intention of changing anything about the site from the customer’s point of view.

Still, for those who know Expedia well, they’ll know this acquisition is somewhat lackluster.

EXPE boasts a market cap of $11.1 billion and has generated $5.5 billion in revenue over the prior four quarters. It generated net income of $427 million during that timeframe as well. What, pray tell, is the company getting with Travelocity that’s worth its time, trouble and only $280 million?

On a whole-dollar basis, not a lot. In the most recently reported quarter, Sabre reported a total of $670 million without Travelocity’s contribution, and $756 million factoring in Travelocity’s sales. It implies Travelocity drove $86 million in sales in Q3 of 2014. On a nine-month basis, Travelocity generated a commensurate $261 million in revenue. The numbers suggest Travelocity is currently driving about $346 million in annual sales.

It doesn’t appear to be generally profitable, though. While the online travel booking site may have yielded positive operating income of roughly $12 million on last quarter’s $86 million in revenue, for the past nine months it lost $29 million in operating income … and this seems to be the norm, judging from Sabre’s less recent accounting statements.

So why would Expedia bother buying a habitual loser? Because EXPE can likely do with Travelocity what Sabre couldn’t, which is tweak it into a profitable venture.

The Secret of Success for Online Travel Agents

It’s in sharp contrast to the way M&A is done in, oh, say the world of biopharma. For drugmakers, the name of the game is megadeals, shelling out huge sums of cash for a compelling pipeline of late-stage drugs. Online travel-booking websites, however, don’t create value via megadeals.

Rather, online travel agents (or OTAs) like Expedia, Priceline and TripAdvisor create value by creating scale, where the whole is greater than the sum of its parts.

Though it’s unlikely Travelocity will exceed $400 million in annual revenue anytime soon just because it’s now under the EXPE umbrella, it may, in fact, become a profitable venture by culling out some of the expenses that overlap with expenditures Expedia is going to make anyway. The addition of technology and know-how will also help.

This is the proverbial name of the game in the online travel agency arena.

It’s not a new idea, but it is an aspect of the online travel-booking world that isn’t underscored often enough. In fact, it can mean the difference between success and failure for many small and startup OTAs.

Larger players like Priceline and Expedia can negotiate betters deals with hotels than smaller competitors can, and both Expedia and Priceline have deeper pockets to reach into for advertising purposes. It’s a world where being in third place, size-wise, is about the same as being in last place — nothing matters  if you can’t get out from underneath the shadow of Priceline and Expedia, both of which are profitable because they can leverage their size. Some would even argue it’s actually much easier and cheaper to make small acquisitions profitable one at a time than it is to pay a premium for a good-sized existing online travel agent.

Giving credit where it’s due, TripAdvisor may be the poster child for making small acquisitions within the online travel-booking arena. Though often criticized for his lack of willingness to make bigger deals, CEO Steve Kaufer explained his actual  M&A goals were in 2013 by saying:

“The … lens through which I look at acquisitions is really furthering the core TripAdvisor offering globally. So we’d look at either something that adds lots of traffic in a market where we’re not strong in, or something that adds technology or features to something that, in fact, we can roll out globally because, again, we’re trying to leverage our traffic base, our content base, our reach, our membership, and those are pretty powerful assets that, if we brought a technology or a team, we can often make some nice hay with that.”

Interestingly, immediately accretive revenue isn’t part of the mind-set.

In that light, the purchase of Travelocity looks like a bargain. Expedia is only paying 0.8 times Travelocity’s annual revenue, versus a marketwide norm of about 2.3. Though it’s not profitable (yet), assuming Travelocity is capable of yielding net margins of about 10% of sales, Expedia is only paying roughly 8.2 times potential future earnings of Travelocity. The S&P 500’s forward-looking P/E ratio at this time is about 16.6.

Where to From Here

As much consolidation as investors have seen within the OTA space over the past few years, the industry is still more fragmented than not. Though 2014’s totals are still being tallied, in 2013, EXPE and PCLN — the two biggest names in the OTA space — each only booked about 14% of the total travel arrangements made online.

Translation: There’s still plenty of room for more deals to be done, and small ones are just as likely as big ones,

The tricky part for U.S. investors is, many of these buyout targets aren’t publicly-traded, or at least not publicly-traded in the United States (Travelocity wasn’t). One such target that is publicly-traded, though, is Orbitz Worldwide, Inc. (OWW) … and it’s looking for a suitor.

Why is Orbitz Worldwide putting itself up for sale? Benchmark’s Daniel Kurnos offered the familiar explanation that with annual revenue of less than $1billion, it simply didn’t benefit from an economy of scale.

Expedia CEO Dara Khosrowshahi agrees, recently observing that “They (Orbitz) are doing as well as they can, but they are simply subscale.” Khosrowshahi added, “I don’t think we could make a deal happen because of anti-trust (legislation)…  I would assume nothing happens, but you never know.”

One thing is for sure — more small deals in the OTA space are on the way.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, https://investorplace.com/2015/01/expedia-travelocity-deal-says-online-travel/.

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