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Expedia Inc. (EXPE - Analyst Report) reported fourth-quarter earnings that were 3 cents short of the Zacks Consensus Estimate, although revenue exceeded by 4.7%. Technology improvements and brand building drove better conversions across categories, geographies and channels. Therefore, despite the increase in related costs, share prices gained 3.6% during the day and another 5.0% after-hours.
Revenue for the quarter was $974.9 million, down 18.7% sequentially, but up 23.8% year over year.
Revenue by Segment
Leisure customers remained the significantly larger contributors in the last quarter, generating around 91% of revenue. Corporate customers (Egencia) accounted for the balance. The two segments grew -20.6% and 9.0%, respectively from the previous quarter and were up 19.9% and 88.9%, respectively from the year-ago quarter.
With TripAdvisor gone, Expedia is almost totally dependent on the Leisure segment (although it is beefing up the Egencia segment with acquisitions). Expedia continued to benefit from the acquisition of VIA Travel that closed in the second quarter of 2012. VIA’s operations are mostly in Northern Europe, which has done much better than the South in recent times.
Revenue by Channel
Around 75% of total revenue was generated through the merchant business (direct sales), another 22% came through the agency model (where Expedia operates as an agent of the supplier) and roughly 3% came from Advertising and Media. The three channels were down 9.8%, 21.5% and 5.7%, respectively from the Sep quarter of 2012. Growth from the year-ago quarter was 26.9%, 23.5% and 10.0%, respectively.
Revenue by Product Line
Hotel and Air, the two main product lines grew 25% and 10% respectively from the year-ago quarter. The increase in Hotel revenue came from a 33% increase in room nights and a 3% decline in the average daily rate (“ADR”). Revenue per night dropped 6%. In the last quarter, international room night growth of 49% was nearly three times the domestic room night growth of 19%.
Mix was clearly negative, as the growth in Asia (much lower ADRs and revenue per room night) remains much stronger than other regions and this will likely remain a negative impact on hotel margins, while driving up volumes. Expedia believes that the added scale of the lower-margin business would more than make up for the negative mix impact going forward.
Air was around 26% of revenue in the last quarter, a 10% increase from last year. The increase in ticket revenue was attributable to a 12% increase in ticket volumes and 2% increase in airfare. Revenue per ticket declined 2%.
Revenue by Geography
Around 52% of Expedia’s quarterly revenue was generated domestically, with the remaining 48% coming from international sources. The domestic business was down 21.9% sequentially, although it remained 12.6% higher than a year ago. The international business grew 24.1% sequentially and 22.2% from last year. The international business declined 14.9% on a sequential basis and was up 39.3% year over year.
Bookings and Revenue Margin
Gross bookings were $7.53 billion in the last quarter, down 16.9% sequentially and increasing 19.3% year over year. The revenue margin was 13.0%, down 28 bps sequentially but up 48 bps from a year ago indicating higher conversions on a year-over-year basis due to strength across segments, channels and geographies.
Conversions in both the domestic and international businesses followed the same trend. Corporate conversions were better than leisure and agency conversions better than merchant in the last quarter.
The pro forma gross margin for the quarter was 76.9%, down 277 bps sequentially and up 21 bps year over year. The sequential decline in volumes was the most important reason for the sequential contraction.
Higher costs for credit card processing (due to merchant bookings growth), higher headcount and other costs related to VIA and increased headcount costs to support other operations across the world were partially offset by higher credit card rebates. As a result, gross profit dollars declined from $955.4 million in the year-ago quarter to $749.7 million in the last quarter.
The operating expenses of $626.4 million were up 12.6% sequentially and 23.9% from last year. This drove the operating margin to 12.7%, down from 19.9% in the previous quarter and up slightly from 12.5% a year ago. All except S&M expenses increased sequentially as a percentage of sales. However, both S&M and technology & content costs increased from last year.
Adjusted EBITDA as reported by the company was $184.6 million, up 37% sequentially and 14% from the year-ago quarter.
On a pro forma basis, Expedia generated a net income of $73.2 million, or a 7.5% net income margin compared to $177.9 million, or 14.8% in the previous quarter and $63.4 million or 8.1% net income margin in the same quarter last year. The pro forma earnings per share (EPS) were $0.52, compared to $1.26 cents in the Sep 2012 quarter and $0.46 cents in the Dec quarter of 2011.
Our pro forma estimate excludes intangibles amortization charges, legal reserves and other items on a tax-adjusted basis, excluding a one-time tax reserve but including deferred stock compensation. Our pro forma calculations may differ from management’s presentation due to the inclusion/exclusion of some items that were not considered by management.
Including the above special items, as well as discontinued operations and non controlling interests, the GAAP net income available for Expedia shareholders was $9.05 million ($0.06 a share) compared to $171.5 million ($1.21 a share) in the previous quarter and income of $70.3 million ($0.51 a share) in the year-ago quarter.
Cash and short term investments totaled $1.94 billion at quarter-end, down $418.9 million during the quarter. The net cash position of $688.8 million was down significantly from $1.11 billion in net cash going into the quarter. Including long-term liabilities, the debt to total capital ratio was 42.9%, still at manageable levels. Days sales outstanding (DSOs) went from 43 to 42. We note that over 40% the assets is goodwill (not a real asset).
In the last quarter, Expedia used $216.7 million of cash in operations. It spent $58.7 million on capex, $87.9 million on dividends and $51.5 million on share repurchases.
Expedia topped our revenue expectations in the last quarter, helped by a stronger travel market all over the world, a contribution from VIA and strategic expansion in Asia. Online travel booking is particularly buoyant because of the shift from offline channels.
The opportunity in the Asia/Pacific region is significant and is likely to remain one of the strongest drivers of the company’s business over the next few quarters, particularly since online penetration in many Asia/Pacific markets remains relatively low. The company has responded by steadily increasing its hotel inventory and entering into strategic relationships, such as the one with Air Asia. An improved technology platform should lead to continued improvement in conversion rates going forward.
The increasing presence in Asia does have a downside with respect to margins given the lower ADRs. While it is true that this as well as technology upgrades will negatively impact margins in the near term, we consider the investment a positive, since Asia is one of the fastest-growing regions that should give Expedia the scale required to generate higher profits over the long term.
Of course, the company will continue to face challenges from players like Priceline.com (PCLN - Analyst Report), Orbitz Worldwide (OWW - Snapshot Report), Travelocity and Ctrip.com international Ltd (CTRP - Snapshot Report) as well as a growing number of other local Chinese players that could make expansion in the fast-growing Chinese market difficult. Competition aside, Expedia and other online travel agents continue to fight the incidence and collection of occupancy taxes.
Expedia shares carry a Zacks Rank #3, which translates to a short term Hold rating. We remain Neutral on a long-term basis.
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