Why Wotif has no reservations about Expedia's bid

From the moment online travel agency Wotif issued a profit warning last December and its shares went into freefall, there has been speculation that it would become a target. Today that speculation became a reality.

The $703 million bid by US giant Expedia -- the world’s largest online travel group -- underscores the increasingly obvious and brutal truth about online travel services. They are now a price-driven commodity and in commodity businesses, scale really matters.

That underlying challenge for smaller regional businesses like Wotif trying to compete in an increasingly globalised sector was illustrated last December when Wotif shocked the market by providing guidance that first-half earnings would fall from $27.5m to a figure between $21.9m and $22.6m. They came in at the upper end of that range.

Its shares, which had been trading around $4.20 (against $6 a year earlier) tumbled in price below $3 and were trading below $2.60 last week before the $3.30 a share Expedia bid emerged.

Today Wotif said it expected its earnings for this financial year to be about $43m. Last year they were $51m and the year before that $58m. Its issues have been developing over a number of years.

Wotif has identified its challenges. Its earnings have been impacted by the need to remedy a significant under-investment in technology and marketing at a time when the sector is globalising, competition is intensifying and the domestic market is softening.

Pure online travel businesses require big and continuing investments in technology and a lot of advertising and marketing because they are commodity businesses within an increasingly competitive environment that is increasingly being dominated by groups like Expedia and Priceline.

Expedia, founded in 1996 within the Microsoft brand and later spun-out, is a $US10.7 billion company that already has a presence in Australia. It announced it had achieved more than a million booking transactions in this market earlier this year, which made Australia its third-largest market after the US and Canada.

For Expedia, which has aggressively expanded via alliances and acquisitions, Wotif is an attractive bolt-on that expands its base in this market and gives it a bigger presence in the Asia-Pacific region.

For Wotif, Expedia will solve the technology issues and give it much deeper access to offshore travel inventory.

Wotif had conducted a strategic review which included discussions with 'multiple' parties that had expressed interest in acquiring the company. Chairman Dick McIlwain said today that the board had unanimously concluded the Expedia offer was in the best interests of all shareholders after assessing the changing dynamics of the markets in which Wotif operates and the uncertainties and risks it would face if it continued as an independent company.

The acquisition is to be effected via a scheme of arrangement that is supported by Wotif’s co-founders, Graeme Wood and Andrew Brice, both of who have entered agreement with Expedia that give it options over up to 19.9 per cent of Wotif.

Wood and Brice between them control more than 35 per cent of the company -- Wood owns about 19.7 per cent and Brice 15.5 per cent. Unless another bidder emerges it is almost certain Expedia will succeed.

The offer of $3.30 a share includes a special fully-franked dividend of 24 cents a share which will add up to 10 cents of value to the face value of the bid once the franking credits are taken into account.

The offer for Wotif will inevitably focus attention on the other local online travel businesses like Webjet and Flight Centre.

Webjet’s share price has also tumbled this year (it has halved). Flight Centre’s has also fallen, although its model is a hybrid that involves a physical network of retail outlets with an online overlay, which may insulate it to some degree from the commoditisation occurring within the sector.