A rocket indeed, Priceline (Nasdaq: PCLN), since YCharts last wrote (on Sept. 14, 2010) admiringly about the company's business model but expressed concerns about its valuation, shot up 56% to $520 and change. An ebullient market and the company's amazing growth are behind the rise:
The market's ebullience one can see in Priceline's rising p/e ratio.
What's not to like, you say? First quarter revenue rose 38.5% to $809.3 million and Priceline expects 2Q revenue to rise in the range of 36% to 41%. The leverage inherent in Priceline's business model -- low fixed costs, few employees, scalable systems -- sent 1Q net income up 94%, to $104.8 million, or $2.05 a diluted share. Profit rising more than twice as rapidly as income -- that's nice.
But longer-term, which is the focus of YCharts (Priceline is rated neutral by YCharts Pro, with extreme over-valuation), there is a case for caution. As CreditSights' Roger King, one of the smartest travel-industry analysts around, asked after 1Q Priceline results, "The situation is similar to Nasdaq in 1999 -- at what point do you get off the rocket?"
A look at advertising costs and a reminder that Priceline is now essentially a foreign hotel booking service, with 82% of its 2010 operating income coming from overseas, suggests caution.
Priceline now sells reservations for 150,000 hotels worldwide, and expanding that number will grow more difficult over time. Priceline's basic marketing plan involves buying search terms (Search most any major foreign city name followed by "hotels," and among the first listings in the shaded area will be booking.com or agoda.com, Priceline's foreign hotel sites) on Google (Nasdaq: GOOG) and elsewhere. But that cost, relative to revenues, is rising, amid increased competition from other travel sites.
In 2010, online ad spending was $552 million (forget the hilarious William Shatner ads we see on TV here in the U.S.; Priceline spends just $36 million a year on offline advertising), which was 17.9% of revenue. That was up from $365 million, or 15.6% of revenue in 2009.
And for the first quarter of 2011, online ad spending, $185 million, jumped to 22.9% of revenue, vs. $113 million, or 19.3%, a year earlier. That's declining ad efficiency.
What a pain to buy all those search terms! You'd think savvy travelers would learn to go straight to Priceline's web site or some other seller's. But the ad spending suggests otherwise. Good news for Google, bad news for Priceline.
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Priceline's other expenses -- people, sales and marketing chief among them -- are smaller than online advertising, so margins haven't yet been squeezed.
The stock may well continue upward. Short interest is modest at about 4 million shares, or just about 8% of shares outstanding, not huge for such a rapidly rising stock. So, the bears aren't exactly surrounding the company. And near-term growth prospects seem good. As our friend Roger King says, one just needs to know when to jump off.
Jeff Bailey is an editor for the YCharts Pro Investor Service.
