Airbnb (ABNB 1.20%) did not invent vacation rentals, but it helped make the concept more workable for hosts and guests alike. Consequently, many investors anxiously awaited its IPO. Unfortunately, now that Airbnb trades publicly, its returns may ultimately disappoint growth investors. Let's explore three reasons why.
1. Lower potential returns than other transformational stocks
Many consider Airbnb stock a buy for the transformation it brought to its industry. It lets property owners earn cash from their property by finding short-term guests, while giving consumers lodging choices beyond hotel rooms they may find cramped or pricey.
Moreover, Amazon (AMZN -1.61%) and Netflix (NFLX -1.85%), who also transformed their respective industries, earned long-term returns of about 16,000% and 44,000%, respectively, thanks in part to the change they inspired.
Unfortunately, Airbnb will likely not replicate these returns for average investors -- because of the price at which the average investor might be able to buy the stock. Amazon and Netflix investors once had opportunities to buy each company at a $500 million market cap or below. Now, Amazon and Netflix support market caps of around $230 billion and about $1.6 trillion, respectively.
In contrast, when Airbnb stock finally debuted, it closed at a market cap of $86 billion on the first day of trading. Airbnb has since reached $120 billion as of the time of this writing.
This denies average stockholders a key opportunity. An investor who bought a $120 billion market cap stock when its market cap stood at $500 million could double their money nearly eight times. This takes a $5,000 initial investment to approximately $1.2 million. At an $86 billion market cap, Airbnb robbed every non-insider of the chance to buy at an earlier stage.
2. Airbnb's tenuous competitive moat
Second, investors must buy before competitors have had the chance to chip away at a well-developed competitive advantage. Airbnb built an edge by addressing key challenges. It prioritized ease of use when designing its website. Since the company's founders came from a design background, they knew how to create a website that made bookings quick and easy to understand.
Moreover, the founders focused on building personal experiences one would not find at a hotel. They also focused on the safety of both hosts and customers. Airbnb also enhanced its artificial intelligence (AI) capabilities to analyze the data it collected and actively recruited hosts. Such initiatives built trust in its brand.
Still, once a competitor understands the effectiveness of such strategies, it can replicate these actions. Now, Google parent Alphabet (GOOGL -0.74%) (GOOG -0.72%), a name long recognized by the public, has begun to actively compete in the vacation rental business. Google has not shown any signs it has added the "personal experience" offered by Airbnb. Nonetheless, it holds a $137 billion cash hoard and has partnered with Sabre to apply AI capabilities to travel booking. This gives Google the ability to easily surpass Airbnb on utilizing collected data.
Expedia, Booking Holdings, Sabre, and other travel companies have also become peers. Additionally, these large-scale competitors have built travel ecosystems. They can serve as one-stop shops for vacation rentals and other travel needs such as airfares, car rentals, and side trips in a way that Airbnb does not currently replicate.
3. Airbnb's stock price and valuation
Third, investors have to question whether Airbnb stock can perform in a more competitive stock market. Admittedly, Airbnb's IPO has produced strong, early returns. Those lucky enough to buy at the IPO price of $68 per share more than doubled their returns on the first day of trading and have nearly tripled their money in just over three months.
Still, new investors have cause for concern. Revenue dropped 41% while gross bookings declined 37% in 2020 as demand fell amid the pandemic. Moreover, Airbnb stock sells for more than 36 times revenue, compared with a sales multiple of under five for Expedia.
Additionally, neither Amazon nor Netflix faced intense competition until years after their IPO. Amazon held first-mover status in both e-commerce and cloud computing while Netflix pioneered streaming video.
Also, as mentioned before, Airbnb stands out in terms of its more personal approach but faces multiple competitors in other vacation rental sites and AI capabilities. It remains unclear how much the personal-touch aspect will command a premium valuation for Airbnb over time.
The bottom line
Few can question that Airbnb has changed lodging. Unfortunately, most investors could only buy after the big gains had occurred. This leaves investors forced to pay a premium valuation for this consumer discretionary stock as the biggest names in tech and travel challenge its competitive edge.
In fairness, Amazon and Netflix continue to rise amid increasing competition and elevated multiples. For this reason, investors could still profit from Airbnb. Still, since it has already become a large-cap stock, investors should temper their expectations for outsized returns from the Amazon or Netflix of vacation rentals.