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Follow The Money: Why Priceline Bought Kayak

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Last week, Priceline.com acquired Kayak for $1.8 billion. That’s more than twice what Google paid for ITA back in 2010. Why did Priceline make this move? And why now?

Priceline acquired Kayak for $40 a share, about $500 million in cash, $1 billion in Priceline equity, and about $300 million in stock options. Kayak got a premium price — a 29 percent premium, to be exact — from Priceline considering that, on the day of its acquisition, Kayak closed at roughly $31 a share. That’s about 54 percent higher than where Kayak was on IPO day, at $26 a share. This no doubt added to Priceline’s impression that Kayak was on the way up and that it was worth paying the big bucks to save it from having to deal with a strong competitor down the road.

While the big numbers are eye-catching, Kayak hasn’t always been in such an enviable position. The company first filed to go public in late 2010 and went public in July of this year — a long road to the public markets by any standard — and one that saw Kayak posting a net loss as recently as a year ago. It finally turned that around in the first quarter of this year, posting a Q1 net income of $4.1 million and grew revenue by 39 percent to $73.3 million.

Those numbers have been on the rise ever since, as Kayak posted its Q3 earnings on the same day that it was acquired by Priceline, with net income rising to $8 million, up from 14 percent from $7 million in Q3 2011. As we wrote in July after the company’s IPO, a big part of Kayak’s resurgence has been its focus on mobile. In its Q3 report, Kayak showed that its mobile revenue per thousand queries (RPM) had increased 63 percent compared to the same quarter in 2011.

So having seen 56 million mobile queries during the quarter, Kayak saw approximately $3.5 million in mobile revenue, which may not seem like a lot but is a large share of the company’s overall revenues.

On November 15th, Kayak announced that it had reached one billion queries in the first ten months of this year. This was significant for the company, because it first reached the billion-queries milestone in 2008 — after four years. It then took the company another three years to compile two billion more. In 2012, it took 10 months. As you can see, the time is telescoping significantly.

Additionally, as part of reaching this milestone, Kayak said that, as of October, its mobile apps had been downloaded over 20 million times. In Q3, Kayak saw 302 million queries across its web and mobile properties, a 31 percent increase from 231 million in Q3 2011 and saw a 95 percent increase over the year prior in its mobile downloads to 3.1 million.

This starts to paint a picture of why Priceline was so eager to snatch up Kayak, believing that catching Kayak in the early stages of what could be huge (and perhaps threatening) growth would save it some pain in the years to come. But this is really just part of it.

What really seems to be attractive to Priceline is the growth of Kayak’s direct booking option. The company first launched it as a white label service in May 2011 to improve its user experience, working with Travelocity and then Air Canada. Later this summer, it expanded that to include Expedia, Getaroom, Hertz/Advantage and Avis/Budget, etc.

In doing so, Kayak started to show the initial signs of moving beyond being a metasearch site, one that lives based on lead-generation and pushing users off-site to book their hotels, tickets and so on at the third-party sites it aggregates. With its direct bookings, users could stay on Kayak.com rather than being transferred to third-party sites, entering their credit card and personal info and finishing the transaction that way.

As many eCommerce companies know, this can be a huge boon for Kayak thanks to the improved booking experience. If users don’t have to leave the site, there’s a much stronger likelihood that they’ll actually complete the transaction. The less friction there is between intent and purchase, the better.

And third-party sites get to reap the benefits as well, as Kayak’s bookings are actually processed through the reservation systems of their third-party partners. That means Kayak gets to provide a more frictionless user experience on the front-end without having to worry about reservation processing taking place on their servers — nor do they have to deal with customer service or fulfillment.

On acquisition day, Kayak’s booking path business represented 11 percent of its overall revenue (for Q3), up from 5 percent the year prior. Although Kayak would deflect such accusations, the company had really started to look more and more like an Online Travel Agency (OTA) than it ever had before, with hotels representing an increasing share of those bookings — and another reason why Priceline had been intently monitoring its progress.

Priceline represents a huge repository of hotels, working with more than 245K properties. Bringing Kayak under its wing allows it potentially to gain much wider distribution, while in turn helping Kayak speed up its push into hotels and international markets. Kayak already partners with Expedia, Travelocity, Getaroom and others, driving bookings for these affiliates, but Priceline arguably has the deepest hotel supply line to offer Kayak, so it makes sense, especially as it seems that the company has been looking to make a strategic shift to hotels.

On its conference call after its acquisition, Priceline and Kayak wouldn’t say too much about the deal other than the fact that it would help Kayak’s hotel business (and international expansion), along with improving Kayak’s marketing efficiencies. While citing marketing efficiencies initially strikes one as being a boring result or perhaps just a throwaway line as part of the deflective stance executives take on conference calls of that sort, it does mean something for Kayak.

The company spent 54 percent of its revenue on sales and marketing in the first half of 2012, with half of that going to offline branding and half spent online. Teaming up with Priceline means a better hotel supply for Kayak and getting access to the marketing machine that is William Shatner, i.e. the Priceline Negotiator. Said another way, Priceline has become pretty good at driving search traffic and its branding and marketing (especially in old media) are far more mature.

The other consideration, of course, is what becoming part of the Priceline brand means for Kayak’s partnership with Expedia and Priceline’s partnership with TripAdvisor. Expedia brands made up about 24 percent of Kayak’s revenue in the first half of 2012. If Kayak becomes stronger as a result of the acquisition, it might be smart business for Expedia to continue on course, but it also wouldn’t be surprising to see it looking to avoid sending cash to its biggest competitor. This choice may also be taken out of the equation if Priceline becomes more of a headliner in Kayak’s Booking Path, which would force Expedia to reduce its distribution.

On the other side, it would make sense for Priceline to move its spending from TripAdvisor to Kayak, in which case Expedia and TripAdvisor might be snuggling up.

In fact, some shuffling of the deck wouldn’t be all that surprising when you consider that the founding team at Kayak hailed from the bigs in the industry before they came together to launch Kayak. The company was founded in 2004 by veterans including Steve Hafner (CEO) a co-founder of Orbitz, Paul English (CTO) a former VP of technology at Intuit, Terrell Jones (Chairman), founder of Travelocity, and Greg Slyngstad (Director), founder of Expedia.

After the acquisition, the founders will be making out pretty well, as one can see from the company’s final S-1 filing. Paul English, as a result of his 7.8 percent stake, could make up to $122 million and co-founder Steve Hafner stands to see $94 million based on a 6 percent share of ownership.

And to that point, it’s worth taking a look at who really wins big from Kayak’s sale: Its investors. All told, investors had put in about $229 million in Kayak since its founding in 2004. Starting with General Catalyst, which helped incubate Kayak in the beginning, which had about 10.4 million shares after IPO, after which the firm bought up another 300K shares. So, as Bizjournals first noted, this means that General Catalyst holds a 26.7 percent stake in Kayak, which is valued at about $417 million — that’s close to the firm’s entire sixth fund at $500 million.

Furthermore, Sequoia owns roughly 16 percent of Kayak, which is worth some $251 million, Accel owns 12 percent at $195 million and Oak Investment Partners owns 10.5 percent, at $166 million.

Not bad for a few days work.