VALUATION HIGHLIGHTS

1. Core OTA Bookings constitute 70% of the Trefis price estimate for Expedia's stock.
2. B2B constitutes 28% of the Trefis price estimate for Expedia's stock.

WHAT HAS CHANGED?

1. Expedia Saw A Mixed Q2

The online travel agency fell short of revenue estimates but beat the earnings estimates in its second-quarter earnings report. The company's revenue increased 6% year-over-year (y-o-y) to $3.36 billion. Booked room nights rose 9% to $89.7 million, driving gross bookings up 5% to around $27.3 billion. On the bottom line, adjusted earnings per share rose 48% y-o-y to $2.89. Also, EXPE's adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) came in at $747 million, growing 15% y-o-y.

Note: Expedia FY'22 ended on December 31, 2022.Q2 2023 refers to the quarter that ended on June 30, 2023

BUSINESS SUMMARY

Expedia (NASDAQ: EXPE) is the second-largest online travel service provider in the world, in terms of revenues. It operates online travel portals such as expedia.com, hotels.com, and hotwire.com, that help connect travelers with travel suppliers, such as hotels, airlines, cruises, and car rental companies.

While serving as a global travel marketplace, Expedia broadly makes money by either (i) acting as a travel agent and charging a commission (known as the processing fee or the booking fee) on every transaction, or by (ii) acting as a merchant and purchasing the travel inventory (air tickets and hotel stays) from the travel providers (airlines and hotels) in bulk at discounted prices and selling the same to the customers at a premium. In addition, Expedia sells advertising on its websites, and companies (mostly travel suppliers-hotels and airlines) either pay-per-click or pay a flat fee for the duration of advertising.

KEY TRENDS

The following factors determine the fate of the online travel industry:

Macroeconomic Environment

• Due to the discretionary nature of leisure travel, online travel service providers, which earn revenue in the proportion (and as a percentage of) travel bookings, depend entirely on the macroeconomic conditions (employment levels, inflation rates, etc). Corporate travel is, in fact, one of the prime indicators of economic activity and is influenced the most by macroeconomic conditions. During the onset of the pandemic, both corporate and leisure travel plummeted. Amidst rising unemployment and declining disposable income levels, consumers cut back on their travel plans first, before making adjustments to other expenses.
• Advertising, which constitutes a significant source of revenue for online travel service providers, depends on the level of business activity. Amidst recessionary times, businesses cut back on media and advertising spending and this translates into lower online advertising revenue for travel portals such as expedia.com
1. Foreign Exchange
• Leisure travelers, unlike corporations, do not hedge themselves against foreign exchange fluctuations. Hence, the spot foreign exchange rates determine the consumer demand for international travel. In times of adverse foreign exchange rate movements (such as a depreciating dollar), international travel becomes dearer and the same hotel booking and air tickets cost more dollars, thereby discouraging travel bookings.
• Travel service providers such as Expedia and Booking Holdings, earn revenues from international bookings in foreign currencies, but incur most operating expenses in dollars, and report the earnings in dollars. Thus, adverse foreign exchange movements could erode the profits of travel service providers. Since an increasing proportion of bookings are coming from less penetrated emerging economies, the exposure to foreign exchange is expected to increase in the future.
2. Fuel Prices
• Rising fuel prices have the immediate impact of increasing airfares which discourages travel. This not only impacts air ticket bookings but also negatively impacts hotel bookings and destination services such as car rentals and cruises. A decline in overall bookings hits travel service providers' revenues.
• With rises in fuel prices, airlines are no longer able to offer significant discounts on bulk bookings to travel agents such as Expedia. As a result, the revenue margins earned by travel service providers (under the merchant model) take a hit. The lower revenue margins translate into lower profit margins for the travel service providers.
3. Significant impact of unforeseen events on travel
• Events that are beyond the control of any travel services provider and can critically impact travel include terrorist attacks, unusual weather patterns, natural disasters (hurricanes, tsunamis, volcanic eruptions), travel-related health concerns (Influenza H1N1, avian bird flu, SARS), political unrest, and other unpredictable events. Unlike other industries, such events have a very significant impact on travel bookings and consequently on the revenues of travel service providers.
4. Internet Penetration
• While the U.S. has over 92% of internet users, the proportion of Europe's population online is close to 90%, with the internet penetration in Asia being even lower, at 67%. Hence, the rise in e-commerce will favor travel providers such as Expedia and Booking Holdings.


5. Airline Industry
• Fuel expenses constitute the single largest cost head for airlines, making them vulnerable to hikes in crude oil prices. To reduce vulnerability to fuel price volatility, many airlines engage in fuel price hedging.
• Demand for flights is highly correlated to global economic growth. Thus, a decline in economic growth, or recession, reduces demand for flights, impacting passenger traffic for airlines. On the contrary, steady growth in the global or U.S. economy, grows demand for air travel, allowing airlines to raise their airfares, occupancy rates, and profits.
• Many airlines are figuring out ways to grow their top lines through ancillary means such as baggage fees, access to onboard WiFi/food/drinks, etc. Accordingly, airlines are investing to enhance their product offerings that include in-flight WiFi and other entertainment options, improved lounge facilities, and extra legroom seats.
• During the past decade, low-cost carriers such as Southwest and JetBlue have gained significant market share in the U.S. Looking ahead, we believe these low-cost carriers will continue to grow their market share, as their lower fares attract passenger traffic.
• The U.S. airline industry has seen many mergers and acquisitions in the last decade including the five big combinations of US Airways and America West, Delta and Northwest, United and Continental, Southwest and AirTran, and American and US Airways. A more consolidated industry has worked to improve the profits of all airlines. Fewer players in the market have made it easier for those remaining airlines to add capacity with restraint. Before this consolidation in the airline industry, individual airlines were adding capacity at higher rates in an attempt to grow their market shares. This rapid capacity addition resulted in an oversupply of seats, reducing margin and profits of all carriers. Going forward, we believe as long as airlines add capacity with discipline, the industry will remain profitable overall.
6. Hotels and Lodging Industry
• During the onset of Covid-19, as travel declined, so did hotel occupancy rates (the proportion of hotel rooms occupied per year). To meet the operating expenses (since the hospitality business has a significantly higher proportion of fixed costs), hotel owners resorted to offering discounts and lower tariffs. This led to a drop in the Average Daily Rate (the average rate per night of hotel booking). Hotels bookings took a hit and adversely impacted the revenues for travel service providers.
• At 16.3%, hotel bookings offer markedly higher revenue margins (revenue earned by the travel service provider as a percentage of the size of booking) compared to air ticket bookings (~2%). Hence, travel service providers make maximum profits from hotel bookings.
• The hotel market in Europe and Asia is much more fragmented with smaller, independent lodgings compared to the U.S., where the hotel market is dominated by large hotel chains. Hotel chains are more likely to offer online bookings through their own websites, while online travel agencies such as Expedia are more appealing to small, independent hotels outside the U.S. Travel agencies stand to make higher revenue margins from independent budget hotels under their merchant business model, hence expansion into the hotel markets in Asia and Eastern Europe presents U.S. based online travel service providers with significant growth opportunities.
7. Online travel services are a highly competitive niche segment within the travel industry.
• Competition in the U.S. online travel market remains intense and traditional online travel companies are creating new promotions and consumer value features to gain a competitive advantage.
• Since consumers are now increasingly looking for bargains and discounts, traffic obtained through online advertising has increased as a percentage of total demand since the same consumer visits several websites before making a purchase decision. This increased shopping behavior has reduced advertising efficiency and effectiveness as traffic obtained through online advertising becomes less likely to result in a purchase on the website. Therefore, online advertising expenses for the company have increased at a faster rate than gross profit, a trend that is expected to continue in the future.
8. Threat from Online Search Engines
• Large and established internet search engines with substantial resources, and expertise in developing online commerce and facilitating internet traffic, are creating and intend to further create, inroads into online travel, both in the U.S. and internationally.
• Google has also launched a travel “meta-search” site to show searchers specific hotels and rates in addition to text advertisements. Microsoft has launched Bing Travel, a “meta-search” site that searches for airfare and hotel reservations online and predicts the best time to purchase them. “Meta-search” sites leverage their search technology to aggregate travel search results for the searcher's specific itinerary across suppliers, travel agents, and other websites, and in many instances, compete directly with online travel service providers for customers.