Travelzoo’s Earnings Will Show Growth In Deals Offset By Margin Pressure

Travelzoo Inc. (NASDAQ:TZOO), the global Internet media company, is expected to announce its Q2 2012 earnings on Thursday, July 19. The company posted a 6% y-0-y increase in its earnings last quarter. While increasing operational efficiencies amid declining profit margins remain one of the main concerns for Travelzoo in the current quarter, we believe that with Local Deals and Fly.com the company is well equipped to sustain growth in its subscriber base.

Though the 9% subscriber base last quarter fell short of our estimates, we are confident of seeing an increase hereon as the company is setting up plans to ramp up its salesforce in the near future. Below we list certain factors that will determine the company’s performance in Q2 2012 as well as the year ahead.

See our full analysis of Travelzoo

Downward Pressure on Profit Margins

We believe that the short-term growth opportunity for the company might be impacted as some of its competitors continue to operate below cost, in turn incurring significant losses. Though we believe that this trend is not sustainable in the long term, it might have a negative short-term impact on profit margins for the industry as a whole.

Competitive pressures on costs have already shown a declining trend towards advertising revenue per subscriber. The company started working on cost-cutting measures last quarter with operational expenses (as a percentage of revenues) falling from 89% to 73% in the European market segment. However, the company has not been able to achieve such efficiencies in the North American segment, where the operational expenses have increased from 59% to 62% of revenues.

Going forward, Travelzoo plans to focus on profitable growth and improved productivity, which we believe will stabilize margins in the long run.

Differentiation & Local Offers Experience Provide Competitive Advantage

Travelzoo’s local deals business, which was launched in the third quarter of 2010, has been a significant revenue generating opportunity. Travelzoo is differentiating itself from group-buying sites like Groupon, Living Social and AOL’s Wow.com by leveraging its existing hotel relationships and offering higher-end deals, often for hotel spas and restaurants.

The local deals business leverages Travelzoo’s subscriber base for other products like the Top 20 Newsletter by providing it access to big mailing lists as well as serving as a great fit given its trained sales force who have prior experience in selling local offers. This helps Travelzoo’s local deals to compete with larger competitors like Groupon right at an early stage.

In the deals space, which forms over 22% of the Trefis price estimate, the company is extending its reach to additional U.S., Canadian and European cities while aiming to increase deal frequency and revenue per market.

Increasing Traffic With Fly.com

By showing results from all major online travel agencies in one view, Fly.com claims to be the most comprehensive airfare search engine in the United States, competing directly with travel meta-search engine providers such as Kayak. Fly.com gives users the ability to compare prices from all the major U.S. online travel agencies such as Expedia (NASDAQ:EXPE), Priceline.com (NASDAQ:PCLN), Orbitz, Travelocity, Hotwire and CheapOair.

Travelzoo recognizes Fly.com as a meta-search opportunity with attractive economics, and is creating synergies with its own travel business offerings like the Top 20 newsletter. The company sees a growing opportunity for cross-promoting deal content between Travelzoo and Fly.com which will help improve deal content, in turn increasing traffic flow to its websites.

We will update our current price estimate of $30.38 post Q2 2012 earnings release.

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