In the moat report card series, we test for the presence of a moat by analyzing the returns a company generates on the funds it invests, or ROIC.
- Over time, has the company earned a sufficiently high ROIC?
- Is the ROIC of high quality?
- Is the company maintaining and growing the returns it earns on invested capital?
For a full explanation of the score card, click here.
Here is a look at Orbitz Worldwide's (NYSE: OWW) returns on capital to help us assess its moat.
ROIC history
Let's see how Orbitz's three-year rolling ROIC has changed over time and in relation to its nearest competitor, Expedia (Nasdaq: EXPE):
|
Metric |
2007 |
2008 |
2009 |
3-Year Average |
|---|---|---|---|---|
|
Orbitz's rolling ROIC |
1.2% |
2.2% |
4.1% |
2.5% |
|
Expedia's rolling ROIC |
4.8% |
7.3% |
10.9% |
5.8% |
Data from Capital IQ, a division of Standard & Poor's.
Orbitz has been around since 2001 but began showing signs of sustainable profitability in 2004. Unfortunately, the Gnome in Expedia's television ads has not yet proven to be a great investment as rolling returns on capital have consistently been below its cost of capital. Even after turning in its best single year from an ROIC standpoint (6.1% in 2009), Orbitz misses our 10% runway.
The news gets worse when we consider the solid 2009 performance of competitors Expedia and priceline.com (Nasdaq: PCLN): 15.2% and 23.2%, respectively. Digging deeper, we see that Orbitz has been improving its business.
In 2008, the company merged its Web properties onto a single platform and earlier this year moved to a more scientific approach to advertising by hiring a new chief marketing officer. The company's ebookers.com looks ready to do head-to-head battle in Europe with Expedia and priceline.com's booking.com and continue to improve ROIC. The table above shows rolling ROIC moving in the right direction but still riding shotgun to the competition.
ROIC quality
Just like return on equity, there are only so many ways a firm can juice its ROIC. The three levers are profit margins, asset turnover and leverage. Here is the data for Orbitz:
|
Metric |
2007 |
2008 |
2009 |
5-Year Average |
|---|---|---|---|---|
|
After-tax operating profit margin |
4.5% |
4% |
5.5% |
3.1% |
|
Asset turnover |
0.45 |
0.56 |
0.61 |
0.47 |
|
Operating ROA |
2.1% |
2.3% |
3.3% |
1.4% |
|
ROA contribution to ROIC |
69.4% |
66.5% |
55.3% |
64.2% |
|
Leverage |
1.44 |
1.50 |
1.81 |
1.57 |
|
Orbitz's ROIC with industry leverage |
2.8% |
3.3% |
5.2% |
2.4% |
|
Industry ROIC |
5.9% |
9% |
13.5% |
7.2% |
Data from Capital IQ, a division of Standard & Poor's.
Orbitz has improved its operations steadily since 2004. After-tax operating margins have risen from 1.1% to 5.5% in 2009 and have coincided with a doubling of asset turnover. With that, operating return on assets has risen from the ashes to 3.3% last year.
Looking at the company's ROIC assuming industry leverage we see that, even though returns are consistently low, they would be even lower more conservative financing was used. Even with improving operations Orbitz, fails to score points in the ROIC Quality category.
|
ROIC Growth |
5-Year Average |
Score |
Weight |
|---|---|---|---|
|
Average 3-year ROIC growth |
82.5% |
5 |
10% |
|
ROIC growth vs. Expedia |
1.9 |
5 |
20% |
Data from Capital IQ, a division of Standard & Poor's.
Orbitz finally books a good grade in the ROIC Growth category. The operational improvement we cited above has played out in a quickly growing (but still low) ROIC. In fact, the company's ROIC improvement is nearly double that of Expedia and more than double Priceline's.
This fact, however, should be taken with a few grains of salt. Remember that the growth calculation for Orbitz was starting with a very low base and that its competitors are still growing their very respectable ROICs at rates north of 30%.
Pencils down!
With all the numbers in, here's how Orbitz scored:
|
Weighting |
Category |
Criteria |
Final Grade |
|---|---|---|---|
|
30% |
Hurdle |
3-year average ROIC > 10% hurdle rate |
0 |
|
20% |
|
3- year average ROIC > competitor's ROIC |
0 |
|
20% |
Quality |
High ROA contribution percentage |
0 |
|
10% |
Growth |
Rolling ROIC growth over time |
5 |
|
20% |
ROIC growth > competitor's ROIC growth |
5 | |
|
Total Score (out of 5) |
1.5 | ||
|
Final Grade |
D |
Orbitz Worldwide is suffering the effects of operating in a competitive industry with very little differentiation, and the company's low score clearly reflects that.
However, Orbitz is showing signs of improvement and would clearly like to reserve a trip to the top of its industry. But while the company is catching Expedia and its other competitors in terms of gross bookings, it continues to fall behind in terms of revenue, website views, and ROIC.
Stick to company's whose moat is enduring, buy at a reasonable valuation, and your portfolio will stand a better chance of surviving the scratches and flesh wounds that the market dishes out.
