This Growth Story Has More Upside Potential

Andrés is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited. (NASDAQ: PCLN) has been firing on all cylinders lately, the company has many good things going on for investors, and the stock is up more than 50% year to date. After such an explosive rise, investors may understandably feel concerned about the company´s valuation levels. However, make no mistake, Priceline has plenty of gas left in the tank.

The industry
Pricing has become a critical aspect in the commoditized travel industry, and online travel agencies -- OTAs -- are making the price discovery process more efficient via technological innovation, providing this way an enormously valuable service to both travelers and businesses in the industry.

These companies make it possible for hotel operators, airlines, and rental car companies to clear their inventory without damaging the brand value. In this industry, occupation is a key factor for profitability: the additional cost of one more guest in a hotel room that would be otherwise empty is almost irrelevant, so it makes a lot of sense from a financial point of view to offer steep last-minute discounts if the room is going to be vacant anyway.

The problem with offering aggressive discounts is that the brand could get tarnished, and it then becomes more difficult to convince clients to pay the regular price if they have got accustomed to expecting big discounts. Doing it via OTAs as last-minute deals and under special conditions, companies get to clear their inventory by selling to bargain hunters while at the same time protecting the brand image. Needless to say, clients are more than happy with these kinds of deals, which can be spectacularly cheap.

In the same way internet and related technologies have disrupted different business areas over the last years; the travel industry is going through its own technological transformation, and Priceline is the leading player in that revolution.

While Expedia (NASDAQ: EXPE) competes head to head against Priceline in the United States, Priceline is much stronger in Europe, where generates more than 80% of the company´s profits. Even under harsh economic conditions, Europe is a major destination for visitors from all over the world, and this provides a key competitive advantage for Priceline.

Expedia is more focused on the merchant business model, which means buying blocks of rooms and selling them at a mark up to travelers. Priceline, on the other hand, gives more weight to the agency model: allowing hotels to list their own rooms and pay Priceline a commission for every transaction. This has proven to be a more effective and profitable strategy over time.

Orbitz Worldwide (NYSE: OWW) is a third player in the industry, but it comes way behind Priceline and Expedia in terms of revenue and market share. Orbitz generated sales of $817 million in the last twelve months, while Priceline and Expedia produced $5.8 billion and $4.4 billion, respectively.

The company is moving in the right direction lately, Orbitz delivered a 40% increase in hotel revenue for the last quarter and guidance for the next quarter was above analysts’ expectations, too. However, Orbitz still has a long way to go if it’s going to become a big threat to Priceline.

Due to its international presence and smart business model, Priceline has outgrown its competitors by a wide margin over the last few years, and the company has superior profitability levels too. While Priceline has operating margins in the area of 34%, Expedia is much less profitable with operating results at 6.5% of sales, and Orbitz is still struggling to make money on a yearly basis.

<img alt="" src="" />

Priceline closed the acquisition of metasearch engine Kayak in May this year; this will generate opportunities for growth in online advertising and secure access to high quality traffic. Just as important, it will reduce Priceline´s dependence on Google (NASDAQ: GOOG).

Google could be considered a potentially serious threat to Priceline: with the launch of Google Flight Search and Google Hotel Finder, OTAs have accused the online search giant of placing its results upfront, which negatively impacts the visibility of other travel products. In addition to that, Google has also been experimenting with adding flights and hotels deals into its tremendously popular mapping service, which could be a game changer in the industry.

OTAs are big clients for Google, so the search engine needs to thoughtfully consider the negative implications if it wants to go deeper into the travel business. Still, it’s good to know that Priceline is gaining independence from Google with the purchase of Kayak.

Growth and valuation
Priceline delivered sales growth of 26.6% for the last quarter, thanks to an increase of 38% in gross bookings; international bookings climbed 44%, while domestic ones increased 12%. Rental cars days were another strong area with an annual increase of 46%. Net income for the quarter was $437.44 million, up 24% from $352.65 million in the same quarter of 2012.

In spite of this remarkable financial performance, and the steeply rising stock price over the last year, Priceline is still trading at valuation ratios which are mostly in line with historical standards.

When analyzing ratios like P/E, Forward P/E, and Price to Cash Flow over the last few years, we could say that Priceline is trading around average historical valuation levels for the company. Not undervalued, but not too expensive either.

<img alt="" src="" />

Bottom line
Priceline has an undisputed leadership position in the online travel industry, and this means exceptional opportunities for growth over years to come. Even after the recent run up, the stock is trading at moderate valuation levels, so this online travel agency looks well positioned to continue gaining altitude in the long term.

The tech world has been thrown into chaos as the biggest titans invade one another's turf. At stake is the future of a trillion-dollar revolution: mobile. To find out which of these giants is set to dominate the next decade, we've created a free report called "Who Will Win the War Between the 5 Biggest Tech Stocks?" Inside, you'll find out which companies are set to dominate and give in-the-know investors an edge. To grab a copy of this report, simply click here -- it's free!

Andrés Cardenal owns shares of Priceline and Google. The Motley Fool recommends Google and The Motley Fool owns shares of Google and Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus