On the Beach (OTB) – Assessing the moat

On the Beach (OTB) – Assessing the moat

On the Beach (OTB) is an online travel agent (OTA) focused on beach package holidays in Europe. The company’s track record is impressive with revenue more than doubling from 2013 to 2017. The longer-term question is whether On the Beach has a sustainable competitive moat.

It is easy to find high quality businesses. You just need to run a screen for the operating margin and the return on capital employed.

It’s much harder to determine if a business will remain high quality, because high profit margins will inevitably attract competitors. Amazon founder Jeff Bezos famously said: “your margin is my opportunity.” To keep the competition at bay, a company needs to have a sustainable competitive advantage.

The UK focused online travel agent On the Beach (OTB)  doesn’t have an obvious competitive moat. The group has nevertheless grown rapidly and generates strong financial returns (latest share price 420p, market cap £554 million).

Does On the Beach have a moat?

(Source: On the Beach.)

On the Beach: a profitable and growing business

On the Beach’s EBIT profit margin was 30.3% in the UK in fiscal 2017 versus 23.1% in fiscal 2016. The return on capital employed (ROCE) came in at 24.5% in fiscal 2018 or 33.6% excluding goodwill.

On the Beach has also seen adjusted free cash flow per share conversion come in at around 90% (the proportion of earnings that convert into cash).  Rapid growth for On the Beach has been accompanied by an improving operating profit margin.

On the Beach is a profitable business

(Source: SharePad.)

On the Beach’s rapid growth is expected to continue

(Source: SharePad.)

Competition

On the Beach’s performance is currently driven by the online UK short haul beach package holiday market. The tour operators TUI AG (TUI) and Thomas Cook (TCG) are two large competitors in this area along with the package holiday group Jet2holidays (DTG).

Tour operators have been losing market share for sometime and this is likely to continue. Global online travel agents like Expedia and Booking Holdings don’t appear to have a meaningful market share in this segment.

(Source: On the Beach.)

Is there a competitive moat?

On the Beach lists the barriers to success in its market as 1) focus 2) expertise 3) agility 4) scale and 5) brand. However, a competing travel agent is a click a.way and it is therefore worth considering the competitive advantages in depth.

(Source: On the Beach.)

1) The brand: repeat bookings and direct traffic

A brand communicates trust and quality. This is important in the travel industry given the volatility of the sector. The collapse of Lowcostholidays and Monarch certainly left customers in the lurch in 2016.

On the Beach is ATOL protected and repeat bookings were 43% of total bookings in the first half of fiscal 2018. In the same period, direct sources and the OTB brand accounted for 62% of traffic coming to the OTB website.

(Source: On the Beach.)

2) Buying power: direct contracting and exclusive hotels

On the Beach has a 21% market share of the UK online beach holiday market (second only to TUI). In the first half of fiscal 2018 direct contracting was 68% of all hotel room buying while 30% of hotels were on an exclusive basis.

On the Beach has stated that: “scale and disintermediation drives margin growth.” The group has also stated that the increased percentage of hotel exclusivity presents “a huge margin/volume opportunity.”

(Source: On the Beach.)

3) User data and dynamic packaging: a better product

The more customer data that On the Beach has on users the greater the scope there is to personalize the offering. If you have used the group for a number of holidays it will be able to tailor suggestions and special offers.

Another feature that attracts customers is the “dynamic packaged” holidays that On the Beach offers. Customers can start the holiday mid-week, for example, and are shown a variety of low cost airline options.

This can make a holiday significantly cheaper than holidays booked through tour operators. On the Beach states that: “dynamic packaging continues to offer greater value.”

4) Cost advantage: growth lowers costs

When it comes to competing with the tour operators it is not surprising that On the Beach has a significant cost advantage. Tour operators tend to have a high street presence with all the overheads that this entails.

On the Beach clearly has scope to continue taking market share from both TUI and Thomas Cook. Online competitors are more of a threat but On the Beach declining costs as a percentage of revenue gives it an advantage.

(Source: On the Beach.)

Risks: Expedia and Booking Holdings

A potential risk is that larger OTAs like Expedia and Booking Holdings will move into OTB’s main segment. Jet2holidays is a fast growing competitor and there are a number of online only competitors i.e. Love holidays and Travel Republic.

On the Beach is also one of a number of OTAs involved in litigation with Ryanair with regard to reselling seats. A negative ruling will have an impact but OTB’s main business appears to be holiday accommodation.

On the Beach shares since the IPO

(Source: Google Finance.)

Summary

On the Beach’s long-term mission is “to become Europe’s leading online retailer of beach holidays.” The group wants to take on the established tour operators across Europe and currently operates in three Scandinavian countries.

The investment case depends on whether the online travel agent has an enduring competitive moat. Customers appear to be warming to the brand while costs are continuing to fall as a percentage of revenue.

The forecast P/E for the year to September 2019 is modest at 16.2X but this depends on 22% revenue growth being achieved. Full year results on 28 November will offer an insight into UK holiday demand.

 

N.b. If you have used On the Beach or know anyone who has it would be great to get customer feedback below.

0
0
CATEGORIES

COMMENTS

Wordpress (2)
  • comment-avatar

    I think it’s moat is slowly disappearing. It was a leader in dynamically packaged online holidays, and a few years ago had some of the best technology, however competitors such as Love Holidays and Travel Republic have caught up in that respect.

    Brand loyalty is a potential moat, but I suspect people who use OTB also shop around to compare price, so whilst they may go directly to the website due its brand, they still need to be very competitive on price.

    Exclusive hotels is potentially a moat – but only if they are top quality ones, that people want to go back to each year.

    Finally, I think marketing is where a moat is most likely to exist. The amount they can spend on PPC marketing is very hard to match and the data they have built up should mean they can be more targeted than competitors. SEO could be another moat – it can be very hard to displace the top ranking websites on Google, however, after a quick look, Love Holidays appear to be doing better than them here.

    Personally I don’t think they have a moat any longer and expect to see margins decline.

    1
    0
    • comment-avatar

      Thanks hjg123 a great comment. Helpful input on the technology side which I didn’t know about. It is interesting that competitors have caught up with them. Not sure why they don’t list Expedia or Booking Holdings as competitors really.

      I read somewhere that Loveholidays is growing very rapidly. Looking at the Loveholidays website and it does have a similar product. They are nearly all beach holidays. I guess the only difference is that Loveholidays also offers city breaks. But that doesn’t really matter as they are hidden away on the website. Travel Republic is also fairly similar.

      Just researching the story of Loveholidays and apparently it was founded six years ago and bought by private equity in May for £180 million. what the reports says is that it carried 800,000 customers last year versus 1.3 million for On the Beach. So it does look as though it is rapidly closing the gap. Any scale advantage that OTB has will therefore not be significant.

      https://news.sky.com/story/online-travel-agent-love-holidays-on-brink-of-180m-sale-11373526

      I think a lot of this depends on human behaviour and whether there is a “hidden moat.” I.e. Nurofen wouldn’t be bought if we were rational (cheaper alternatives that have the same active ingredient). Or people wouldn’t use Hargreaves Lansdown as competitors are cheaper. There have been over 100 competitors to Fever Tree apparently but their market share remains tiny.

      My view – I don’t really have a strong enough opinion at the current time. Competition from other online only players may get more intense. At the same time there is considerable scope to take market share from the Tour Operators.

      I also think the On the Beach brand is pretty strong. If you want a beach holiday you would tend to think of On the Beach. Although to be fair Loveholidays is also a great brand.

      One thing that probably helps On the Beach is booking complexity. We can compare holidays on different Online Travel Agent websites. But the complexity can be overwhelming. I think there is a comparison website that does that (Trivago).

      Obviously competition is a threat to margins but increased customer loyalty is a margin driver because it reduces marketing costs. I.e. if more and more of On the Beach’s customers come back and use them again we will see margins should increase.

      UK margins – It will certainly be interesting to see what happens. This is the real test: UK margins. These have been increasing for On the Beach and if that changes it will be clear that the competition has had an impact.

      I think it also partly depends on the nature of competition. Whether companies compete on price and whether consumers shop around. People have been saying that Hargreaves Lansdown’s margins are too high for years but they have endured.

      On the Beach results later this month. Share price weakness suggests that investors are somewhat cautious. Historic financials and growth looks great but it is the future that matters. My best guess is that On the Beach’s moat is not super strong. It is probably best described as medium-strength and at risk from the competition.

      Thanks again for your input. Really helpful to get input from people as the strength of the moat is always a judgement call.

      1
      0
  • Your Cart