Airbnb — an investment breakdown of the epic tale of an air mattress company to IPO

The time has finally come. The company formerly known as Airbed and breakfast has now listed on the Nasdaq stock exchange.

What is Airbnb? Airbnb is a simple marketplace connecting people who want to rent accommodation with people who have accommodation to rent out.

But what made it successful?

Airbnb provided a solution to unlock space that wasn’t available on the market before and it was the first company that managed to do so on a big scale and most importantly — monetize it.

By providing a monetary incentive for the hosts to list their place, Airbnb quickly expanded the travel market by offering more unique travel options and cheaper alternatives to hotels.

My first Airbnb experience was in May 2013 to Kyiv, Ukraine — as you can see right here:

Thank you Leona! It was a great trip what happened on the trip deserves an entirely separate Medium article 🙂

Looking into my Airbnb booking history I have made exactly 19 bookings (not counting the places I’ve stayed at that other people booked). That equates to 2.7 Airbnb bookings per year, which is significantly more than I book with any of Airbnb’s competitors.

History

The origin story is well-known at this point. But worth summarizing:

Brian and Joe were design students looking to make an extra buck by renting out air mattresses in their apartment in San Francisco during a design conference.

It whetted their appetite and they pulled in their technical cofounder Nathan and they tried their luck at the Democratic National Convention in Denver in 2008.

And the next year in 2009 they got admitted to the Silicon Valley startup incubator and investor Y Combinator. The rest is as they say, history.

What is perhaps the most interesting, is the biggest reason how they got admitted to Y Combinator. In order to keep themselves and the business afloat - they created breakfast cereals for the US election in ’08 as you can see here ↓

This is obviously highly unusual, creative and super ingenious. By demonstrating this level of creativity they manage to persuade Y Combinator to get admitted.

Public Offering

But now we are in 2020 and it might seem a bit weird to go public, as we are in the middle of a pandemic and the travel and hospitality industry is currently in meltdown.

It is weird.

But it’s also an opportunity for Airbnb.

Airbnb has, and what I also think was a surprise for the company, rebounded from the dreadful months of March and April. Not to pre-pandemic levels, but very strongly.

There are primarily two reasons for this:

1. They slashed costs

• By letting 1900 employees go, a quarter of all employees.
• Cutting marketing cost by almost 1 billion USD.
• The management stopped paying themselves and executives cut their salaries.
• Airbnb also discontinued or paused the vast majority of their projects and moonshots to focus on their core business.

2. And there was a change in customer behavior

• Customers started shifting their bookings to long term stays and to nearby places where hotels don’t have a strong footprint — offsetting a big chunk of the lost revenue.

Under these circumstances Airbnb managed (rather surprisingly) to make a profit in Q3 of 2020 of 260 Million USD.

What does this all mean? It means they have a reduced cost structure and the path to profitability is therefore shorter and more clear.

Finances

Let’s dig into the numbers. The CAGR for the last 5 years has been about 40%, topping at 80% and slowing down to 31% last year. The revenue doubled in two years to close to 5 Billion USD (amazing) but at the same time it has lost more than half of its growth rate — which is worrisome.

The cost ballooned in 2019 to 5.3 Billion USD and has been growing faster than revenues — what really sticks out is the General and Administrative cost. According to the S1 this includes the staff costs (i.e. salaries) and the costs of taking the company public — although it is surprising that the cost came in at such high levels, going forward we should see this decrease as there has been major staff cuts and the company has gone public.

Competition

What is the competition for Airbnb? Does Airbnb have competition? According to the CEO, Airbnb is in a category of one.

However, I would beg to differ. Hotels is not a comparable business because they operate in different parts of the value chain. But there are comparables. I would argue that Booking.com is in the same business as Airbnb. The difference is focus — Booking.com is focused on hotels Airbnb is focused on short term accommodation.

How does Booking.com stack up against Airbnb? Actually, quite well, but it has some obvious flaws.

It’s catching up in the number of short term accommodation hosts, and it has signed up most of the hotels in the world.

It has an efficient online marketing machine to bring in customers and it is already three times bigger than Airbnb and is profitable (pre-pandemic).

That being said — Airbnb has two major advantages that Booking.com is lacking.

→ World class design and brand recognition.

→ Lower fees.

Let’s break these down.

If you compare the design of Airbnb vs Booking.com, Airbnb has vastly better design, UX and customer journey. Because Booking.com has relentlessly valued A/B-testing of every single part over design principles.

Booking.com also applies dark patterns and fake discounts. They ask hosts to raise prices so booking.com can offer steeper discounts. I know this for a fact because I have a friend who rents out on Booking.com.

• Moritz Bittner — How Booking.com makes you book a room
• Roman Cheplyaka — How Booking.com manipulates you

At the same time Booking.com charges hosts a 15% fee whereas Airbnb charges a host 3%.

When Airbnb is charging such a low fee it is leaving a lot of money on the table but the tradeoff being it creates a stronger loyalty for hosts (and higher switching costs).

Opportunities and Threats

Let’s take a look at the opportunities:

1. It has the largest, most global and diverse host network which is also the biggest moat of the company.
2. Airbnb arguably has the most recognizable brand in travel. This is demonstrated by the fact that 91% (!) of traffic is direct. One of very very few internet brands that almost completely has escaped Google and Facebook for traffic generation. This is definitively a moat.
3. Almost 70% customer retention rate.

What are the threats?

1. Regulation — An issue that has been a problem for Airbnb in the past. That governments and municipalities regulate or ban Airbnb. This is a real concern and with good reason. As much of the real estate is used for short term rental drives up the price and decreases the supply of apartments available for rent. In Amsterdam you cannot rent out on Airbnb more than 30 days per year as an example.
2. Costs — Despite running an asset light business model the company racked up some serious costs. In 2019 the total costs were 5.3 Billion USD on 4.8 Billion USD revenue. Now the situation looks different after the cost cutting due to the pandemic, but it’s remarkable that they let costs run that high.
3. Product market fit — I think we only need to look to Experiences, the second product Airbnb launched. It seems that it hasn’t really taken off, and they haven’t broken out the experience bookings in the S1. This leads me to believe that it is a very small percentage of revenue.
4. Verticalization — Competition can come from anywhere and more likely than not it’s probably going to be a new player that will take a piece of Airbnb’s cake. An ongoing trend to watch out for is verticalization — meaning that a new company will take a bite out of Airbnb’s business and do it better. For example, make a better offering for luxury stays or we can take a look at what Hipcamp is doing for camping.

Outlook

Where does this leave us in terms of outlook and future growth given what we know now?

I would say that Airbnb has the opportunity to become a stable blue chip company because it has the moats, the brand and the user experience.

But with the slowing growth one can’t help thinking that a lot of growth of the company has already happened pre-IPO, because they waited so long to go public.

Both Booking.com and Expedia were founded in 1996 — in 24 years they have reached 15 and 12 Billion USD respectively pre-pandemic in one of the biggest ecommerce categories.

Due to Airbnb’s slowing growth and the fact that Booking.com and Expedia haven’t become bigger companies in the same industry worries me a great deal.

However, In the short-term, meaning the latter part of 2021 and ‘22 Airbnb should regain and surpass its pre-pandemic levels, amid a lower cost base, if everything works out with the vaccines.

But Airbnb still needs to grow their revenues post-pandemic and I would argue there are three avenues within Airbnb’s control.

• Increase fees
• Invent new product lines
• Take market share from hotel bookings and competitors

Airbnb’s fees are still low compared to Booking and other competitors which means that there is a big upside on revenue as a percentage of bookings.

One obvious opportunity is that they start going into hotels, which has already slowly started to happen with the acquisition of HotelTonight in 2019.

Another product that most other travel sites are offering are promoted listings, i.e. letting hosts pay to show up higher in the search ranking.

But the big question is when will it surpass Booking.com in terms of revenue and can it outgrow Booking.com and become the market leader?

The big bet that we are making here is that Airbnb can launch new products and be able to scale them.

If Airbnb is 1: able to innovate and 2: able to get market product fit with new products I believe it will become the market leader otherwise the company will eventually simmer down to single digit growth in the long term.

That being said, does the company still have a decade of growth ahead of it?

Yes.

Does it have competent management behind the steering wheel?

Yes.

And what makes the company investable for me in the short to medium term are two things:

1. The 69% customer retention rate.
2. The 91% direct traffic to the website.

Those numbers are bonkers and way over the industry average.

When Airbnb went public the market cap shot up to an astonishing 83 billion USD. Which is on par with Booking.com at one third of the revenue.

This means that on the projected 2020 revenues Airbnb has a revenue multiple of 20x and Booking.com a revenue multiple of 12.5x.

If you bought Airbnb after the IPO and paid around 145 dollars per share you paid a revenue multiple premium of 7.5x compared to Booking.com.

To me, at that level, the valuation has really left earth and the fundamentals of the business are no longer driving the valuation of the business. A fair valuation to me is quite far below 100 dollars per share.

We’ll see if the valuation will get there. My suspicion is that Q4 and Q1 will be bad quarters still affected by the pandemic and we’ll see how the market reacts to those reports. If it goes down below 100 per share I will most likely buy.

Thanks for reading.