Pharcyde22 (< 20)

The Background - eLong’s Positioning

September 01, 2011 – Comments (0) | RELATED TICKERS: LONG

eLong’s strategy is largely anticipatory of macro trends that have not yet reached their inflection point. When I pieced together eLong’s positioning, I saw many similarities to the Priceline story. During the U.S. economic downturn of 2001-2002, Priceline shifted away from air ticketing due to the volatility of air ticket purchasing and its low margins. They instead developed strong relationships with hotel suppliers and focused on the online hotel bookings of the budget-conscious traveler segment. In 2003, Priceline noticed that Europeans were not yet booking travel online. They wanted to establish a foundation before Europeans migrated to online travel booking. The hotel supplier fragmentation (with a lack of big hotel chains) also gave Priceline a pricing advantage by solidifying strong relationships with the many smaller players. Today, Priceline is the most dominant player in Europe, and one of the great success stories of the last decade in online travel. I believe eLong’s management has seen and is anticipating similar opportunities in China.

Online/ Credit card Transactions

While today, cash still dominates as the primary form of payment, eLong made a bold move of eliminating cash payments as of November 2010. This action represented about 15% of their total revenue, making eLong’s growth in 2010 and 2011 particularly impressive. I believe this action will pay dividends in the long run as OTAs reliant on offline booking and its high costs of human capital will undoubtedly face major issues down the road. Consumers are also slowly trusting online purchasing more, and realizing the ease of online booking. This shift in consumer psychology will lead more customers to question why they are paying an additional 70-100 yuan more to book tickets via call centers.

In Q3 2010, about 40% of eLong’s customers were booking online. In its most recent quarter, 55% of hotels booked were done online.  They gained about 200 basis points on gross margin due to a higher percentage of online transactions and their focus on hotels. I believe this will continue to increase and offset any increases in marketing and labor costs.

 

Hotel booking (vs. air ticketing)

eLong has been very busy in the last two years, yet their work can easily be overlooked. For one, although about one tenth the size of CTrip by market cap, eLong has become the largest online travel marketplace in China in terms of hotels available for direct booking with over 21,000 domestic hotels in inventory. This represents an 88% increase YoY when their hotel inventory was only about 11,000. Ctrip is estimated to have about 17,000, and the rest of the competition is just way behind. This huge hotel inventory was a brilliant strategic move because it dramatically increases the barriers to entry into the industry. Not only do they want to be an OTA, they want to also be a back-end provider of hotels to their potential competitors. Their hotel inventory is already plugged into several China travel sites, and doing this makes smaller competition their allies and partners.

Their hotel focus also gives them some protection from an economic slowdown, as airline ticketing has historically been more sensitive to economic cycles vs. hotel booking. Management also realizes that airlines are not the future drivers of travel in China – it’s the high speed rails. And to anticipate, they purchased an online train ticketing company.

A mix shift to budget hotels

The government’s desired establishment of a middle class really plays into eLong’s hand. They’ve been focused on budget hotels (with budget at 38% of their hotel bookings), and the integration of a loyalty couponing program, which has been very successful. With their stated mix shift to budget hotels and steady growth of their coupon program, commission per room night has been decreasing YoY for ten straight quarters, averaging a decline of 8% per quarter. I believe this trend will stabilize after Q3 2011 - the last quarter of tough comps due to World Expo. Also, eventually the smaller hotel operators will realize that price wars hurt everyone, and after finding a floor, they will become savvier as when to increase rates. As average daily room rates (ADR) stabilize and some increase, eLong’s margins can expand as online continues to become their main source of doing business.

Aggressive Growth

I like to think that eLong has laid down the foundation in the last two years, but here on in, it’s all about aggressive growth. You can see it with many of their recent initiatives:

i) Their Tencent partnership announced in May just went live in July with three new websites: go.qq.com, tuan.qq.com, and trip.elong.com. eLong now has some of Tencent’s 500-700 million users looking at Tencent’s beautiful travel site, powered with eLong’s hotel inventory. In the last earnings call, they revealed that more initiatives will be announced with Tencent.

ii) At the end of last year, management stated that they will have more proactive integration with      RenRen. I believe this initiative will be live soon.

iii) The company made an acquisition of a train ticketing company in June - http://www.huoche.com/, which is now integrated into eLong’s website.

iv) They’ve recently released updated mobile apps for iPhone and Android which have received high ratings by customers

v) Just today (8/30/11), eLong.com revealed a completely new website with a modern feel and enormous improvements in usability and functionality over their last site.

vi) They have stepped up the spending on acquiring customers. Their marketing spending increased by 40% y/y in their most recent quarter. Management stated in the conference call to continue to expect the high market costs as they aggressively attempt to take customers. Although usually deemed a negative, I believe this makes sense given the dramatic changes they’ve made to their businesses. The customers need to know that this is a new and vastly improved company.

Strategic Partners

eLong also has many allies in China including: DaoDao (the TripAdvisor of China); Egencia (Expedia’s corporate travel specialists); Expedia; Oak Pacific Interactive; and Kuxun (a Chinese travel meta-search site).  

The Defensive

eLong has ($US) $280 million in cash, waiting to make strategic acquisitions and fend off competition. I believe this cash in addition to their hotel inventory will largely make eLong and Ctrip the main competitors in the domestic OTA market. Although Qunar is very popular, I’m not so sure they will be successful in their venture into hotels, which I will discuss later in the competitor report.

Criticisms

I have one main criticism for eLong and this is in regards to their customer acquisition strategy. They’ve stated they intend to step up spending on acquiring customers. Management has stated that they spend significantly on search engines and other online advertising. Just checking the main Chinese search engines, I don’t see much of a presence. I see much more of Ctrip, Agoda, and Qunar. I’m not sure if this is because results are different in the U.S. vs. China, but I don’t see much evidence of this increased marketing spending on search sites.

But this may actually be a positive. Maybe Tencent’s sites are gaining major traction. And I have seen an increase of presence in blogs, and online community building related to eLong, which is clearly a lower cost marketing alternative to spending in online search. If these methods are effective, it will increase margins - a big bonus for eLong.

 

The final part – Competitors will be posted sometime this week.