Travelzoo’s Earnings Fall On Macro Headwinds And Big Investments

While Travelzoo (NASDAQ:TZOO) managed to post a small sequential gain in revenue in Q2, the company posted a disappointing Q3 2012 with an 8% decline in revenue and a 42% y-o-y decline in net income. Though the company continued to gain momentum in its Getaway business, it was not sufficient to drive overall revenue growth.

Apart from macro headwinds, lower revenue from Supersearch and Local Deals contributed to the revenue decline, whereas the continued investments into team expansion and enhancement of product portfolio put downward pressure on profits. Travelzoo witnessed a slowdown in both North America and Europe, with the former posting a sharper decline on account of reduced spend from online booking engines and a decline in average number of vouchers sold per deal.

While we believe that Travelzoo faces certain near-term challenges which might slow down growth, we maintain a positive long-term outlook for the company.

See our full analysis of Travelzoo

Current Investment To Fuel Future Growth

Travelzoo saw a significant decline in EBITDA margin in 2011 due to increasing advertising spend on building brand awareness and higher general and administrative expenses incurred on account of headcount growth to scale international expansion. Even in Q3, the company’s bottom-line suffered on increased investments in headcount and subscriber acquisition as well as higher marketing expenses.

While the increase in investments might be detrimental for short-term growth, we expect it to play a crucial role to spur long-term top-line growth. Going forward, we expect the expenses to reduce, and as Travelzoo plans to focus on growth and improved productivity, we estimate margins to stabilize in the long run.

Increase In Traffic With Fly.com

Travelzoo’s search division includes revenues from both Fly.com, a travel search engine, and Supersearch, a pay-per-click travel search tool. While the company has registered an increase in searches via Fly.com, the number of searches on Supersearch has declined over the years as Travelzoo diverts its marketing spend away from Supersearch and towards Fly.com.

In Q3 2012, the company witnessed a decline in searches both in North America and Europe on account of reduced spend on traffic acquisition. While the decline in North America was as a result of Google’s own hotel search placements, the drop in Europe was more of a strategic move due to economic uncertainty in Europe.

However, we believe this to be temporary and estimate the searches on Fly.com to register y-o-y growth for the rest of our review period. We expect the launch of hotel search will power search volumes growth and the positive synergy with its core travel business will augur well for traffic at Fly.com.

Scaling Local Deals & Getaways

Though Travelzoo continued to gain momentum in its Getaway business, the Local deals segment suffered a setback this quarter. The deals revenue from Europe and North America declined by 10% and 13%, respectively, on account of lower average number of vouchers sold per deal. The company feels that a highly competitive environment and its strategy to only feature high-quality merchants and not to expand into categories too far from its core were the contributing factors for the decline.

We estimate Local Deals to contribute close to 20% to Travelzoo’s valuation. The company has been focusing on extending its reach to additional U.S., Canadian and European cities while aiming to increase deal frequency and revenue per market. Travelzoo’s existing hotel relationships and growing subscriber base for its other products, like the Top 20 Newsletter, could give the company an edge over its competitors.

While we agree that with increasing competition in the deals space, the average revenue per deal is treading lower, and we believe the partnership with Sysco iCare, the success of Getaways and revenue synergies with other Travelzoo businesses will help drive volumes in this segment.

We are in the process of updating our price estimate of $26.36 for Travelzoo for the Q3 2012 earnings release.

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