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Ctrip's Expenses Cancel Its Top-Line Growth

By Brian Stoffel - Nov 9, 2018 at 8:16AM

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It's all about the gross margins.

When it comes to online travel agencies in China, (TCOM 1.24%) is the undisputed top dog. Shareholders have been rewarded for this position in kind, with the stock rising 400% in the decade prior to this week's earnings release.

The company has hit a speed bump, however. Growth has slowed markedly in one of its key segments, and costs are rising on par with sales. If it were a young upstart, this could be explained away. But Ctrip is maturing into a market stalwart, and investors don't like what they're seeing -- sending shares down by 19% Thursday after the release.

What does it mean for long-term shareholders? 

Sun rising over Shanghai

Is the sun setting on Ctrip, or just starting to rise? Image source: Getty Images.

Ctrip earnings: The raw numbers

Before diving into the details of the quarter, let's review the headline numbers.

Metric Q3 2018 Q3 2017 Growth
Revenue RMB 9.4 billion RMB 8.1 billion 15%
Earnings per share RMB 2.88 RMB 2.95 (2%)

Data source: Ctrip investor relations. EPS is presented on a non-GAAP basis.

It's tough for long-term shareholders to see growth slow to such a number. While a 15% bump is considered good for many companies, the opportunity in China is vast and many are used to seeing top-line growth well above 50% for Ctrip. That being said, management was very clear these numbers were expected when it reported second-quarter results.

The problem is that the company is growing its expenses at the same rate as the the top line. After backing out stock-based compensation, here's how the different segments grew last quarter.

Metric Q3 2018 Q3 2017 Growth
Product development RMB 2.3 billion RMB 2.0 billion 15%
Sales and marketing RMB 2.7 billion RMB 2.3 billion 14%
General and administrative RMB 0.5 billion RMB 0.5 billion 0%

Data source: Ctrip investor relations. Spending rounded to nearest 0.1 billion. Percentages might not equal the displayed figures.

Adding salt to this wound was the fact that gross margins contracted over 500 basis points to 78.89%. Speaking on the conference call, CFO Cindy Wang explained: "The year-over-year decrease in gross margin was mainly due to the decrease of per air ticket revenue due to operating adjustment."

We've discussed this "operating adjustment" already. In the past, customers were automatically opted in to high-margin add-ons like travel insurance without realizing they were purchasing it. When this came to light, the Chinese government wasn't happy -- and neither were customers who trusted Ctrip. That practice has come to an end -- and with it, a certain portion of the company's high-margin revenue.

While Yang gave numerous other reasons for the shortfall, she said the company expected gross margins to be between 75% and 80% moving forward -- a fairly important drop-off from the 80%-plus margins investors had come to expect from the leader of a winner-take-all category like online travel.

What else happened during the quarter?

Here's a rundown of other notable items from Ctrip's third quarter, starting with the company's four reporting segments:

Segment Q3 2018 Q3 2017 Growth
Accommodations RMB 3.6 billion RMB 3.0 billion 21%
Transportation RMB 3.6 billion RMB 3.4 billion 6%
Packaged tours RMB 1.4 billion RMB 1.1 billion 28%
Corporate travel RMB 0.2 billion RMB 0.3 billion 31%

Data source: Ctrip investor relations. Spending rounded to nearest 0.1 billion. Percentages might not equal the displayed figures.

  • The Skyscanner international air travel subsidiary increased direct bookings 250%.
  • Not including Skyscanner, international travel bookings far outpaced industry growth.
  • The gross merchandise value of Ctrip's brick-and-mortar locations in low-tier cities jumped 80%.
  • Room-night growth in said cities also increased, this time by 50%.

Looking ahead

For the fourth quarter of 2018, management expects revenue to grow between 15% and 20%. Of that:

  • Accommodation revenue is expected to increase 20% to 25%.
  • Transportation revenue is forecast to rise 10% to 15% -- with most growth coming from international travel. Analysts brought up this means flat growth for domestic travel, which seemed surprising given the growth of the domestic market in the past.
  • Packaged tour revenue is predicted to jump 25% to 30%.
  • Corporate travel is anticipated to get a boost of 25% to 30%.

After this week's release and the stock's subsequent fall, Ctrip now trades for roughly 18 times non-GAAP trailing earnings per share.

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