Booking Holdings Inc. (then The Priceline Group Inc.) — Q3 2017 Form 10-Q
Business context and reporting period. The filing covers the three and nine months ended September 30, 2017; financial statements are unaudited and prepared under U.S. GAAP. The company operated Booking.com, priceline.com, KAYAK, agoda.com, Rentalcars.com and OpenTable. Its business was heavily international and primarily driven by accommodation bookings.
Key financial results
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Revenue | $4.434 billion | $3.691 billion | $9.878 billion | $8.395 billion |
| Gross profit | $4.375 billion | $3.589 billion | $9.661 billion | $8.038 billion |
| Operating income | $2.102 billion | $833 million | $3.552 billion | $2.116 billion |
| Net income | $1.720 billion | $506 million | $2.896 billion | $1.461 billion |
| Diluted EPS | $34.43 | $10.13 | $57.85 | $29.19 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $3.488 billion | $2.887 billion |
- Revenue rose 20.1% in Q3 and 17.7% for the first nine months. Gross profit increased 21.9% and 20.2%, respectively.
- Reported gross margin was 98.7% in Q3 and 97.8% for nine months, versus 97.3% and 95.8% in 2016. The mix shift away from gross-reported Name Your Own Price transactions contributed to higher reported margins.
- Q3 operating margin was approximately 47.4% versus 22.6% in 2016; nine-month operating margin was approximately 35.9% versus 25.2%. Comparisons benefit substantially from the absence of the prior-year impairment charge.
- Q3 net margin was approximately 38.8% versus 13.7%; nine-month net margin was approximately 29.3% versus 17.4%.
- For nine months, operating cash flow was $3.488 billion; investing cash outflow was $3.643 billion and financing cash inflow was $821 million. Capital expenditures were $224 million. Cash, cash equivalents and restricted cash ended at $2.848 billion.
- At September 30, cash and cash equivalents were $2.846 billion, short-term investments $4.407 billion and long-term investments $11.114 billion, totaling $18.4 billion in cash and investments. Approximately $15.9 billion was held internationally.
- Debt principal outstanding was approximately $9.8 billion; balance-sheet carrying amounts were $900 million of current convertible debt and $8.727 billion of long-term debt. The $2.0 billion revolving credit facility had no borrowings outstanding.
Material changes versus prior period
- Accommodation room nights increased 18.6% in Q3 and 22.2% for nine months; total gross bookings increased 17.9% and 19.4%, respectively. International gross profit grew 23.0% in Q3 and 21.8% for nine months, including favorable currency effects in Q3.
- Agency revenue rose 21.8% in Q3 and 22.4% for nine months. Merchant revenue increased 10.3% in Q3 but only 1.0% for nine months, partly reflecting declining Name Your Own Price activity; airline ticket reservations also fell.
- Performance advertising rose 17.7% in Q3 and 22.3% for nine months; personnel costs rose 39.1% and 23.4%, respectively. Management cited headcount growth, higher compensation and promotional spending. Nine-month performance advertising as a share of gross profit increased to 34.7% from 34.1%.
- The 2016 comparable periods included a non-cash, non-deductible $940.7 million OpenTable goodwill impairment; there was no such charge in 2017. 2016 also included $63.2 million of cost-method investment impairments over nine months.
- The effective tax rate fell to 16.8% for Q3 and 16.2% for nine months, from 36.6% and 25.1%. Lower international tax rates, the Dutch Innovation Box regime and equity-award tax benefits contributed.
- The company acquired Momondo Group for $555.5 million in July, funded from international cash, and issued new notes in 2017. It repurchased $1.1 billion of stock in the first nine months.
Outlook, risks and unusual items
- No specific quantitative revenue or earnings guidance is provided. Management expects accommodation growth rates generally to decelerate as the business grows, while continuing investment in marketing, technology, personnel and expansion. It expects advertising expense and competition to remain significant.
- Management said performance advertising returns on investment have trended down over time. In Q3, the company pursued improved advertising returns, which could support efficiency while weighing on growth.
- Revenue recognition will change beginning in Q1 2018: accommodation reservation revenue is expected to be recognized at guest check-in rather than check-out, shifting some revenue between quarters. Management expected a slight annual increase in revenue and net income but more significant quarterly timing effects. Name Your Own Price revenue will move from gross to net presentation; operating cash flow is expected to be unaffected.
- OpenTable passed the second step of the impairment test with implied goodwill fair value about 24% above carrying value, although its reporting-unit carrying value exceeded estimated fair value by approximately 6% at the first step. A further impairment remains possible if forecasts or assumptions weaken.
- Key legal and regulatory exposures include European investigations and restrictions on rate-parity clauses; a Turkish court order suspending Booking.com offers to Turkish residents; roughly 20 U.S. travel-tax lawsuits and an accrued $24 million for related claims; and French tax assessments of approximately €356 million for 2003–2012, with a further audit underway. A reasonable estimate of potential loss on the French matter is not provided.
- IBM patent litigation remained pending, with trial scheduled for January 2018; the company could not reasonably estimate a possible loss. Risks also include travel-demand disruption, foreign exchange, online competition and search-platform dependence, data security, and changes in tax law. The Dutch Innovation Box benefit is material and could be reduced or lost.
- Management noted that Hurricanes Harvey and Irma, terrorist attacks and Turkey-related disruption affected travel activity. The company reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Most important facts for investors to verify
- Underlying booking and gross-profit growth, including constant-currency performance, versus reported revenue growth and currency effects.
- Whether rising advertising, personnel and payment-processing costs pressure margins as growth moderates.
- The impact of Q1 2018 revenue-recognition changes on quarterly comparability and reported revenue presentation.
- Debt and capital-allocation developments, including 2018 convertible-note conversions, additional borrowing and continued share repurchases.
- Developments in the French tax assessment, U.S. travel-tax matters, European rate-parity regulation, the Turkey restriction and IBM litigation.
- OpenTable performance and impairment-test assumptions, plus the valuation and risk concentration of Ctrip investments and other international holdings.