Downside Risks To Priceline’s Kayak Acquisition Due To Google-ITA

by Trefis Team
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Kayak (NASDAQ:KYAK) is a travel search company that offers travel suppliers and OTAs such as Expedia (NASDAQ:EXPE) and Priceline (NASDAQ:PCLN) an efficient channel to sell their products and services to potential customers. Kayak provides travel buyers a one-stop research solution to find the best fares along with travel management tools and services such as flight status updates, pricing alerts and itinerary management.

During Kayak’s earnings it announced that Priceline would acquire the company for $1.8, which is still pending approval from shareholders and regulators. While the union of Priceline and Kayak could certainly bring many benefits, we believe there are still downside risks to Kayak’s business model which is dependent on Google’s ITA software.  Here we look at Google-ITA’s impact on the online travel industry, and its threat to Kayak’s role as a travel search product.

See Our Complete analysis for Kayak’s stock here

What does ITA Software Do?

ITA Software is a developer of airline ticket pricing software and systems. The software uses algorithms to combine multiple sets of flight information, including pricing, flight time and seat availability data, from airlines. The software helps users to create an up-to-date database that can be searched across for flight queries.

ITA Software’s data is used by a number of companies including Kayak, Orbitz, Expedia, Tripadvisor as well as Microsoft’s Bing among others. These companies create their own searching algorithms that use ITA’s robust database.

Why was Google’s acquisition of ITA Software opposed by most OTA’s?

The acquisition was strongly opposed by various competitors, who even went to the extent of forming an anti-deal FairSearch coalition. The FairSearch coalition included companies such as Kayak, TripAdvisor, Travelocity, Expedia, Farelogix, Microsoft [Bing Travel], Zuji, Level.com and Foundem.

There were two main reasons for the opposition. First, Google could restrict competitors’ access to ITA’s database. Since most of the travel search sites use ITA to search for airline ticketing information, losing access to this database would significantly impact their business. Second, the entry of Google into the travel space further crowds the online travel market.

Google currently accounts for over 65% of the global online PC searches, as per our estimate, and thus the competing companies felt that by having the power to show its own results upfront, Google might have an unfair competitive advantage over the other players. Additionally, ITA’s software is capable of extending to other travel products in the future, especially hotels, and thus the threat might not be restricted to the airline sector alone.

What conditions did the DOJ set for Google and ITA?

Though the US Department of Justice approved the acquisition, it put in place strong and ongoing enforcement tools:

“In order for Google Inc. to proceed with its proposed acquisition of ITA Software Inc., the department will require Google to develop and license travel software, to establish internal firewall procedures and to continue software research and development. The department said that the proposed settlement will protect competition for airfare comparison and booking websites and ensure those websites using ITA’s software will be able to power their websites to compete against any airfare website Google may introduce. The department said that the acquisition, as originally proposed, would have substantially lessened competition among providers of comparative flight search websites in the United States, resulting in reduced choice and less innovation for consumers.” [1]

This means -

  1. Competitors can use ITA software and data.
  2. Google cannot see how the competitors are using the data and their performance (firewall).
  3. Google is required to continue investing in R&D and keep ITA software updated.

What it does not prohibit Google from doing is to show its results upfront when users search on Google for travel deals.

After the DOJ’s approval, Google declared its commitment to extend ITA customers’ contract to 2016 and agreed to let both current and new customers license ITA’s QPX software on “fair, reasonable and non-discriminatory terms” to 2016 along with related commitments aimed at making ITA’s technology available to other travel sites.

What is Google’s plan with ITA? How successful has that been? How does Google’s travel search compare with Kayak’s?

With ITA Software on board, Google has created a new flight search tool which compares flight options and prices for various carriers. The company claims to receive the highest volume of queries for travel related information and aims to make it easier for users to search for travel information on its website. However, Google maintains that it has no plans to facilitate bookings directly on its website. [2]

While Google Flight Search’s ranking has slightly improved since its launch, it still lags way behind Kayak and Bing Travel. The search tool is still at its nascent stage and many users feel that it lacks the comprehensiveness that some of the competing sites offer. Google’s flight search engine has been criticized for the quality of its search results in terms of accuracy and best price found. Additionally, the search tool only offers domestic flights and international flights with US departures, which is a major drawback.

 

Brand

Position in the list of US Travel sites – September’11

Position in the list of US Travel sites – January’12

Market Share of US metasearch category – January’12

Kayak

17

14

52.56%

Bing Travel

30

37

18.24%

Farecompare

111

131

3.49%

Google Flight Search

391

368

1.00%

Hipmunk

974

1,034

0.26%

Mobissimo

1,359

1,395

0.17%

Source: Tnooz

Possible impact on Kayak

While the acquisition in general poses a major threat to all travel search companies, the fact that ITA currently contributes close to 39% to Kayak’s total airfare query results makes the company all the more vulnerable. Since airline travel queries account for 85% of total searches performed on Kayak’s websites and mobile applications, the Google-ITA deal could significantly impact the company’s future valuation.

However, in a recent interview Kayak’s CEO declared that the company is not severely impacted by Google’s entry in the online travel search space. Kayak entered the travel search market in 2004, whereas Google is a relatively new entrant. Kayak feels that it has a recognized brand name in the market and a strong search algorithm which will help it expand, maintain and grow its user base.

What are the steps taken by Kayak to hedge itself?

  1. Reducing its dependence on ITA: While ITA’s current contribution to total airfare query results (39%) continues to be significant, the percentage has significantly come down from 60% a few months back (as per Kayak’s November 2011 S-1 filing). Kayak recently announced a multi-year agreement with long-term technology partner Amadeus, where it expanded the use of the latter’s airline fare and availability technology for more comprehensive flight search results.
  2. Focus on increasing mobile opportunity: At present, queries received via Kayak’s mobile application contribute to around 14% to total search queries received by the company. In Q3 2012, Kayak registered a 87% y-o-y increase by processing 56 million queries via its mobile applications. Additionally, Kayak’s mobile applications have been downloaded more than 17 million times since 2009, and so far this year the company has registered 8.4 million downloads. Kayak believes that it has a more loyal mobile user base compared to the PC user base. This loyalty will keep users from moving over to Google or other travel search engines.
  3. Low dependence on queries from search engines: Around 75% of 310 million user queries that Kayak received in the first three months of 2012 were generated by direct visits to its websites and only about 10% were generated from general search engines. Companies like Kayak, which have a recognized brand name, should continue to have a substantial majority of their users visiting their sites directly rather than being routed through a search engine. This will decrease their reliance on referrals from search engines such as Google.
  4. Launch of its own booking path: Last year, Kayak launched its own booking path which enables users to complete their booking transactions without leaving the Kayak platform, differentiating Kayak from Google flight search. The company presently has 8 collaborative partners for its direct booking path, contributing 11% to total revenues in Q2 2012. However, as Kayak gets more partners on board this scheme, we expect to see a gradual increase in the percentage contribution.

Possible Downside to Kayak’s Enterprise Value

At the moment, Google’s flight search engine is still at an early stage and many users currently perceive companies such as Kayak to offer a more comprehensive result for a travel query. However, having shelled out $700 million for the acquisition of ITA, we expect Google to leverage its superior search technology to add more features and enhance its travel search offering to provide an improved user experience in the future.

Kayak agrees that the alternate faring engines solutions do not currently provide the level of comprehensiveness and accuracy that ITA’s software offers. In the future, Google might not renew ITA’s current agreement with Kayak for any improvement of replacement software, or do so at unfavorable terms, which could negatively impact airline query results from Kayak.

If total airline ticket queries increase to only 2 billion as opposed to 2.9 billion we currently estimate, we would see close to a 20% decline in our price estimate for Kayak.

Along with its Q3 2012 earnings, Kayak announced the Priceline acquisition. The two companies signed a definitive agreement for a stock and cash agreement of $1.8 billion with Priceline agreeing to pay $500 million in cash and and the remaining ($1.3 billion) in equity. The company will pay Kayak shareholders $40 per share, which marks a 29% premium over its closing price on November 8 and almost a 54% premium over Kayak’s initial listing price of $26. (Read: Kayak Earnings & Acquisition Give Investors Two Reason To Cheer)

Our price estimate prior to the announcement was $29.87 for Kayak.

Understand How a Company’s Products Impact its Stock Price at Trefis

Referral revenue per query for hotels is four times higher than referral revenue per query for airline tickets

Notes:
  1. Justice Department Requires Google Inc. to Develop and License Travel Software in Order to Proceed with Its Acquisition of ITA Software Inc., US Department of Justice News, April 8, 2011 []
  2. Facts about Google’s acquisition of ITA Software, Google FAQ []
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  • commented 2 years ago
  • tags: KYAK TRIP EXPE GOOG PCLN
  • Risk? More risk for Priceline as more online shoppers continue to discover other travel booking options. For example, a site like BestTravelCoupon.com consistently delivers lower rates then Kayak. They do not use ITA software for flights like Kayak. They pull up different results and usually lower rates on both flights on hotels.

    And then you have other sites like Gogobot, Hipmunk, and a few others that will present Priceline/Kayak with some tough competition.

    I think this 1.8B price may blow up for Priceline.