Priceline Turns Rising Sales into Soaring Profits – Amazon Doesn’t and it Matters
Reading George Anders’ smart cover story this month in Forbes about Amazon (AMZN) CEO Jeff Bezos, one is reminded just how completely the Seattle online retailer has changed the process of selling goods, beginning with books and more recently extending to television sets and all sorts of stuff.
Amazon’s web site has an elegant interface. Its service is amazingly prompt and reliable. And its prices are rock-bottom. As consumers, we can’t help but be amazed. And if the Internet revolution has taught us anything, it’s that innovation – the better gadget, as in the Apple (AAPL) iPhone -- equals stock market value. Thus, it’s perfectly reasonable that Amazon would carry a market cap of about $85 billion.
Or is it? After all, Amazon had net income of just $631 million last year, and Amazon’s PE ratio is well above 100. Perhaps investors have become a little too dazzled by their experiences as Amazon customers. One merely reading the financials would wonder how a company with narrowing profit margins – Amazon’s revenue growth of late has made it less profitable, not more so, on an absolute basis -- could be so richly valued.
The sentiment seems to be that a company as cool as Amazon will figure out how to make heaps of money. And that in the meantime, revenue growth cures all. Bezos is lauded for managing for the long-term. But it isn’t clear how he’s going to fatten Amazon’s razor-thin margins. Surely, investors don’t expect Amazon to run all the competition out of business and thus become a monopoly with absolute pricing power?
How does a business built on price-cutting persuade its deal-hungry customers that prices matter less?
And as for managing for the long-term, a cynic -- given that investors are focused so narrowly on revenue growth – might see desperation, rather than long-term focus, in the costly free shipping offers and other moves that Bezos uses to boost revenue but that dent profits.
All of the above is preamble to thinking about Priceline (PCLN). Its web site, certainly efficient, isn’t nearly as elegant as Amazon’s. Its service seems fine, but this is the travel business and Priceline’s performance can’t be any better than that of the hotel you booked through the service; so, the Priceline experience can never be as perfect as the Amazon relationship. Priceline’s prices are probably just fine, too, but travel is an opaque market, and you never can be certain you got the best deal. In other words, Priceline isn’t as cool a service as Amazon.
And yet, reading the financials, Priceline excels where Amazon fails. The travel site’s margins widen as its revenue grows. Its costs and employee count rise more slowly than sales and profits. It sells a service, as opposed to retail goods, so there’s no need for warehouses and all the associated costs. In short, so far at least, it’s a better business than Amazon, even if it doesn’t attract the zealous customer loyalty that Amazon does.
Revenue rose 41% last year at Priceline, roughly the same as Amazon’s increase. But while Amazon profit was plunging, Priceline’s doubled. That’s operating leverage that demonstrates an efficient business. And makes the Priceline PE seem less excessive. Reasonable, even.
A potential weakness at Priceline: it spent $919.2 million last year on online advertising, buying search terms and such – Google “Hong Kong hotel” – to drive people to its sites booking.com and agoda.com (priceline.com is domestic). Lucky Google (GOOG). But one would hope that over time Priceline could develop more brand power and get customers to come directly to its site. Maybe it could if the site was cooler, like Amazon’s. But once users get to the site, they buy hotel rooms and rental cars and those transactions are increasingly profitable for Priceline. Amazon hasn’t figured that one out yet.
It’s clear why Amazon is the more admired company. But it makes less sense that Amazon shares command a premium to shares of Priceline, which so far has the better business model.