A Capital-Efficient Travel Agency With a Global Reach

Inventor and entrepreneur Jay Walker founded online travel agency ("OTA") Priceline in 1997 to solve a problem in the airline industry...

In the '90s, airlines had a lot of excess capacity. There were far more empty seats on commercial flights back then.

The airlines were leaving a lot of money on the table by flying about 2 million empty seats per day. Passengers took up fewer than 70% of the seats on a typical domestic U.S. flight.

Today, the so-called "passenger load factor" is up past 80%.

To solve this problem, Walker created the "Name Your Own Price" service that became Priceline's hallmark. It was a type of reverse auction.

The site displayed no prices...

Instead, would-be travelers submitted a bid for an airline ticket. If the bid exceeded a preset threshold, then the transaction occurred at the consumer's named price. If not, then the consumer could submit another bid after a delay period – usually 24 hours.

This gave Priceline an edge in a fast-growing industry.

But the company's best move came in 2004... That's when Priceline made two of the most important and transformative acquisitions in travel-industry history.

Today, we're looking at the company Priceline became after these acquisitions...

It now has multiple independently operated brands. You probably use some of its platforms without even knowing it. It's the market leader in online travel booking.

We're talking about Booking Holdings (Nasdaq: BKNG).

OTAs have become the most popular way to book travel. Traditional travel agents still exist. But most people only use them if they're booking a complex, expensive trip, or one with a large group of people.

You can still get flights from Booking, along with car rentals and dinner reservations. In addition to Booking.com – which was one of those transformative 2004 purchases – and Priceline, the company's best-known brands include Kayak, Agoda, Rentalcars.com, and OpenTable.

But the company's biggest business has become hotel rooms...

Today, you can instantly book accommodations at more than 2 million properties on Booking. That includes around 430,000 hotels, motels, and resorts. And it includes around 1.9 million houses, apartments, and other "unique places to stay," which the company calls "alternative accommodations."

So, how does Booking connect users with these hotels?

Many of Booking's competitors use the "merchant" model...

These OTAs buy blocks of unbooked hotel rooms at a discount. They mark them up and sell them to travelers at a profit. Travelers pay the OTAs at the time of booking and the OTAs pay the hotels only after the travelers check out.

In the U.S., the merchant model became the main way of doing business for OTAs. A small number of major hotel chains dominated the market.

But Booking operates under the "agency" model of OTAs.

Under this model, Booking is just a middleman. It doesn't collect any cash up front. Instead, the guests pay the hotel at the end of their stay. Booking collects a commission from the hotel after the stay is completed.

This gives the company a leg up on the competition in international markets. See, the European and Asian markets are made up of thousands of smaller, independent hotels and hotel chains.

In these regions, no particular chain dominates the market. Each country has its own unique boutique brands. To offer customers lots of places to stay across the continent, you need more than a relationship with a few big hotel chains.

This lets Booking offer more options in international markets than its competitors.

This is great for sales. In the past 12 months, Booking reported sales of just under $15 billion. And it's still growing...

Booking has several huge trends providing tailwinds for growth:

• Offline-to-online booking,
• Adoption of mobile devices, and
• Growth of travel in the Asia Pacific region.

Not only does Booking have a strong, growing business model, it's also extremely capital-efficient.

Remember, capital-efficient companies don't need to heavily reinvest in their companies to grow. Instead, they can use the cash generated by the business to pay down debt or reward shareholders.

Booking is no different.

As the company has grown, it has become much more profitable. Operating margins have fattened from 4% in 2005 to 40% today. And its free cash has grown from 5% in 2005 to 31% of revenues today.

Very few companies produce that much free cash. The average S&P 500 company is lucky if 10% of its revenues trickle down to free cash flow.

Booking generates three times that.

And it uses this free cash to reward shareholders. Over the past 12 months, Booking has returned nearly $10 billion to shareholders through dividends and buybacks.

Since hitting a recent bottom in June, the stock has soared about 25%. And it's currently nearing an all-time high.

But there could still be further gains ahead... When you invest in capital-efficient companies, and hold them for the long term, it doesn't really matter when you invest in them.

Such companies' excellent businesses and cash-generating power propel them through good times and bad.

Booking is one of the most capital-efficient companies in the world. It's a leader in its industry with multiple growth areas. All of these factors set it up to be a fantastic long-term investment.

Sometimes investing is simple.