TEXT-Fitch affirms Expedia's IDR at 'BBB-'
Oct 4 - Fitch Ratings has affirmed the Issuer Default Rating (IDR) for Expedia, Inc. (Expedia) at 'BBB-' with a Stable Outlook. Expedia's ratings reflect a mix of credit strengths and concerns coupled with a reasonably conservative balance sheet. The company has significant exposure to economic cyclicality and its impact on travel demand which is countered by strong secular growth trends as an increasing mix of travel reservations are made through OTAs (online travel agents). Expedia has solid geographic and customer diversity but Liberty Interactive (Liberty) retains a controlling stake in the company (although its shares are voted by Expedia Chairman, Barry Diller) which Fitch views as posing significant event risk for the credit. Expedia as a credit is weaker following the 2011 spin-off of TripAdvisor. However, the credit could be strengthened if Liberty's majority control is eliminated. In March 2012, Liberty entered into a forward sale of 12 million shares, approximately 35% of its total economic interest in the company although it retains control of 55% of the voting shares. Liberty has also assigned its Expedia holdings to a new tracking stock, Liberty Ventures, which Fitch views as lessening the near-term risk of a sale of the remaining stake either in the open market or back to the company. Fitch expects that Expedia will remain a moderately leveraged credit while the competitive landscape and changing technology trends of the OTA market remain in flux. Google's intent in the travel market is uncertain while the ability and willingness of hotels to compete for direct bookings is uncertain although both are considerable long-term threats. Fitch views Expedia, as the largest OTA in the world with a meaningful secular tailwind and significant financial flexibility, as having the capacity to manage these potential challenges over the foreseeable future. Fitch expects leverage, currently estimated at 1.7x, to remain at or below 2x (excluding the potential for temporary spikes for strategic acquisitions) so long as Liberty and its affiliates retain control of the company. Fitch believes that the company's consideration of enabling consumers to choose to pay upfront for certain hotels under a merchant model or paying at the time of a stay under an agency model could have a meaningful impact on cash flow and working capital over time. Fitch believes Expedia will follow a controlled roll-out of this new feature so as to better understand its consumer appeal and to insure that it does not pose a challenge to liquidity. As of June 30, 2012, Expedia had cash and short-term investments of $2.4 billion versus a working capital deficit of $2.9 billion which is almost entirely related to hotel bookings under a merchant model. Fitch does not expect the merchant model to decline to an extent that would challenge liquidity over the next few years but expects this trend will need to be monitored. The current rating assumes that share repurchase activity would be curtailed if the expected working capital deficit reduction were to accelerate. Credit strengths include: -- Expedia is the largest OTA with advantages in scale that have contributed to the company gaining significant share in the market for travel services over the past several years; -- Broad customer and geographic diversification positively impact the stability of end-market demand for travel services which are inherently highly correlated to the macro-economic environment; -- Expedia benefits from the expected continuation of a secular shift towards use of OTAs which should support revenue growth in excess of both overall travel services and GDP growth; -- A relatively high variable cost model limits potential negative pressure on profitability during business downturns, although much of the variable cost items are specific to marketing expense which, if reduced, could have a negative effect on the company's competitive position. Ratings concerns include the following: -- Liberty Interactive holds shares representing approximately 55% of the voting power in Expedia. While Liberty has given Expedia's Chairman of the Board Barry Diller a proxy to vote these shares, Fitch's ratings take into account Liberty's historical track record of shareholder-friendly actions; -- Increasing competition from other on-line travel businesses including Google as well as the potential for non-OTAs such as TripAdvisor to become significant competitors in the future; -- Expedia faces a potentially significant contingent liability due to lawsuits related to hotel occupancy taxes. The company could also face negative pressure on profitability if municipal tax rules are amended to specifically apply to the retail rate charged by Expedia; -- Ongoing pricing pressure in the OTA market combined with increasing competition with direct sales channels could negatively impact future revenue growth and profitability; -- Inherent volatility in travel service demands due to macroeconomic drivers as well as the potential for significant volatility due to travel demand shocks; -- Expedia competes directly with the online presence of its suppliers in the travel services industry, which could lead to future disruptions in the company's business model, although Fitch believes OTAs represent a valued source of market information to, as well as being a marketing arm of, travel service providers; -- Prior debt financed share repurchase programs. Liquidity as of June 30, 2012 was solid with $1.3 billion in cash and an undrawn $750 million senior unsecured revolving credit facility which expires in August 2016. Free cash flow has averaged over $500 million annually for the past five years which Fitch expects to remain similarly strong in 2012. Expedia has a working capital deficit of $2.9 billion which peaks seasonally in the June quarter and should decline through the end of the year utilizing approximately $600 million to $800 million of the company's existing cash balance. Expedia does have an additional $1.1 billion in short-term investments to partially offset the working capital deficit. Total debt as of June 30, 2012 was $1.2 billion and consisted of $500 million in 7.456% senior unsecured notes due August 2018 and $750 million in 5.95% senior unsecured notes due August 2020. Fitch has affirmed the following ratings for Expedia: --IDR at 'BBB-'; --Senior unsecured bank credit facility at 'BBB-'; --$500 million in 7.456% senior unsecured notes due August 2018 at 'BBB-'; --$750 million in 5.95% senior unsecured notes due August 2020 at 'BBB-'. WHAT COULD TRIGGER A RATING ACTION Positive: Future developments that may, individually or collectively, lead to positive rating action include: --Fitch believes there are minimal business considerations to support the company maintaining a rating above 'BBB-' which will likely forestall positive rating action for the foreseeable future. Negative: Future developments that may, individually or collectively, lead to negative rating action include: -- An increase in expected volatility in profitability, potentially due to greater volatility in travel services demand or a higher fixed cost component to Expedia's financial model; -- A secular decline in the OTA business model, potentially resulting from a shift to direct bookings with travel providers; -- A substantial financial loss from any future conclusion of the occupancy tax lawsuits facing the company. Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings. Applicable Criteria and Related Research: --'Corporate Rating Methodology', Aug. 8, 2012; --'Evaluating Corporate Governance', Dec. 13, 2011; --'Rating Global Technology Companies Sector Credit Factors,' Sept. 20, 2010. Applicable Criteria and Related Research: Rating Technology Companies Corporate Rating Methodology Evaluating Corporate Governance
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