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Fool On The Hill

Tuesday, May 4, 1999

FOOL ON THE HILL
An Investment Opinion
by Alex Schay

Pricing Priceline

We closed yesterday's Fool on the Hill with the understanding that today's topic would consist of a rundown of Priceline.com's <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: PCLN)") else Response.Write("(Nasdaq: PCLN)") end if %> first quarter numbers, as well as a look at what is "built into the stock." That is, what kind of future expectations for the business are already discounted into the present price. First, let's take a look at what the consensus expectations are for the next three years or so.

Running down the I/B/E/S estimates, the mean earnings per share figures for six analysts show 1999 EPS at a ($0.43) loss, and 2000 EPS at a ($0.27) loss. The following is a model of how the yearly income statements might look in order to get close to these figures.



Figures are in (000)
                         1998      1999E         2000E      2001E
Revenues             $35,236.86  197,326.41   394,652.83   789,305.66
Cost of Revenues:      36524.75  175,531.67   343,170.28   686,340.56
Gross Profit          -1,287.89   21,794.75    51,482.55   102,965.11
GP%                       -3.7%       11.0%        13.0%        13.0%
Expenses:
Supplier warrants      57978.67
Sales & Marketing     24,388.06   59,615.83   5,2140.69     41,136.94
S&M%                      69.2%       30.2%       13.2%          5.2%
General & Admin.      18,004.58   17,948.58   28,004.10     48,115.15
G&M%                      51.1%        9.1%        7.1%          6.1%
Systems BizDev        11,131.65    9,059.10   14,171.68     20,450.31
SBDev%                    31.6%        4.6%        3.6%          2.6%
Total                111,502.97   86,623.52   94,316.49    109,702.41
Total%                   316.4%       43.9%       23.9%         13.9%

Operating Loss      -112,790.87  -64,828.77  -42,833.93     -6,737.30
Operating  margin       -320.1%      -32.9%      -10.9%         -0.9%
Interest income          548.37
net loss            -112,242.49  -64,828.77  -42,833.93     -6,737.30
accret                -2,183.424

net loss to common  -114,425.92  -64,828.77  -42,833.93     -6,737.30
EPS                       -1.41       -0.45       -0.30         -0.05
WA Shares             81,231.425 143,250     143,250       143,250


Note that the assumptions in the model are extremely optimistic on almost every financial front. The company has stated that its target gross margins are in the 8-11% range, so granting 13% margins in both the Year 2000 and the year 2001 grants the firm not only solid execution, but a shift in its product mix. Here are the underlying assumptions for the model ("pp" denotes the percentage point change in margins year over year):


                 '98-'99    '99-'00  '00-'01
Sales Growth      460%        100%     100%
Chng. GrossMgn    14.70pp    2.00pp    0.00pp
Chng. Mkt sales  -39.00pp  -17.00pp   -8.00pp
Chng. GenAd      -42.00pp   -2.00pp   -1.00pp
Chng.BizDev      -27.00pp   -1.00pp   -1.00pp
Tax Rate           0%        0%         0%

Of course, in order to meet the existing expectations, if the sales growth is brought down, then a compensatory reduction in expenses needs to be taken into account in order to fit the existing estimates -- with sales and marketing providing the most leverage in the model. The increase in the number of shares outstanding between 1998 and 1999 definitely skews the per share figures (an increase in shares makes negative earnings look better).

After the close today, Priceline.com reported a net operating loss for the first quarter of $17.16 million and a common share loss of $25.5 million after the addition of interest income and the accretion on the preferred stock that was converted at the IPO. This gives the firm a net loss of around $0.12 per share (on 142 million shares outstanding), which is in line with estimates, but a loss of ($0.27) per share with the accretion (and on the 94 million weighted average share count).

How do the numbers compare with the overall 1999 estimates?


                          Q1     1999 Estimates
Revenues               49,410.54  197,326.41
Cost of Revenues:      44,039.94  175,531.67
Gross Profit            5,370.59   21,794.7
GP%                      10.8%       11%
Expenses:
Supplier warrant
Sales & Marketing  171,38.14     59,615.83
S&M%                      34%        30.2%
General & Admin.    3,666.62     17,948.58
G&M%                    7.4%          9.1%
Systems BizDev      2,185.56      9,059.10
SBDev%                  4.4%          4.6%
Total              22,990.32     86,623.52
Total%                 46.5%         43.9%

Operating Loss    -17,619.73    -64,828.77
Operating  margin     -35.6%        -32.9%
net loss          -17,160.30    -64,828.77


Revenue growth on a run rate basis is set to beat the 460% that is built into the model, and gross margins came in close to expectations. Overall, Priceline.com is keeping pace with short-term projections. However, even in the 15-year discounted cash flow model that I have constructed, a significant amount of the company's current value (72%) is encapsulated in the assumptions after year 15. As well, a lot of the current value is derived from extremely positive developments five years from now, but we'll save that for a future column.

[Editor's Note: Warren Gump's series on options will continue tomorrow.]