Expedia's Khosrowshahi looks to 'waves of growth'

BELLEVUE, Wash. -- Dara Khosrowshahi, CEO of the freshly spun-off and newly minted Expedia Inc., has a modestly decorated fourth-floor office here in Building 4 on the Expedia campus. There are a couple of paintings tacked to the walls, a desk covered with neatly stacked paperwork, a copy of Fortune tucked into a magazine rack and a view across a parking lot toward Seattle a few miles away.

But, Khosrowshahi, who is settling into his new digs and role, has his sights set well beyond the Northwest.

"We have a great product to sell," he proclaimed in a recent interview. "We have incredible technology. We are a leader in the field. We can become the biggest travel company in the world. It's a great, great spot to be in."

But his passion for Expedia Inc. is inspired by something even more basic. "It's a fun business," Khosrowshahi said. "I am not selling widgets here."

On a recent Friday morning, dressed in jeans and an Oxford shirt, Khosrowshahi sat down with Travel Weekly for a no-holds-barred interview that touched on all the hot-button issues -- distribution, the merchant model, the competition, working with Barry Diller, the spin-off, Wall Street's reaction and operational challenges. He confidently laid out a blueprint for how Expedia Inc. would conquer the world.

Of course, Dara, as everyone seems to call him, certainly wouldn't describe his strategy that way. But, Expedia Inc., with $100 million in cash and a $1 billion credit line, is thinking Europe, then Asia-Pacific. Internationally, the up-side is enormous long-term, while the stateside market dynamics are tough.

The new and expanded Expedia Inc. estimates that it accounts for 4% to 5% of all gross travel bookings -- online and offline -- in North America. And some analysts say it has a better than 50% share of online travel in the U.S. and Canada.

But if that kind of market position seems like cause for celebration here, consider how the company portrayed market conditions in its second-quarter financial results: "Expedia Inc.'s domestic air and merchant hotel businesses operate in a challenging competitive environment, due primarily to increased competition from third-party distributors, increased promotion by suppliers of their own Web sites and higher overall occupancy rates and load factors. This environment is generally expected to continue."

For the quarter, revenue per airline ticket dipped 11% and hotel "raw margins" were down as well.

Even so, Expedia Inc.'s domestic business grew 6% in the quarter, and that result was eclipsed by the company's international business, which saw revenue increases of 58%.

Not surprisingly, Expedia Inc. -- like Cendant with its eBookers and Gullivers Travel Associates acquisitions and Sabre with its Lastminute.com purchase -- is focusing on international expansion.

"One way of looking at the company is waves of growth," Khosrowshahi said. "Right now, the big wave of growth that we have is Europe. That is a wave that is going to continue for some years. We are building the Expedia Corporate Travel (ECT) business, which right now is fairly small, but we are patient, and we're going to build it."

"And, as Europe gets larger and the law of large numbers kind of takes over in Europe, we are going to have ECT come in as far as growth goes. We are setting up Asia-Pacific to be the wave of growth after ECT."

While it was still operating as IAC Travel, Expedia Inc. engineered some relatively small acquisitions and ventures abroad. In October 2003, for example, it bought Anyway.com, an online agency in France, and it has a joint venture with SNCF in the state-owned railway line's Voyages-SNCF.com.

In Asia-Pacific, Expedia Inc. holds a majority stake in eLong, the Beijing-based travel company that has relationships with 2,600 hotels in China and sells vacation packages and other inventory largely through its call center.

Khosrowshahi contrasts Expedia Inc.'s modus operandi in Europe with his rivals' and, not surprisingly, he thinks his company has an edge.

"We grew the European business largely organically, the vast majority of it," he said. "We have a team there that's been in place five or six years. We have great leadership, and we are executing very, very well in Europe.

"Sabre and Cendant had to buy in," Khosrowshahi said. "I expect a lot of their activities are going to be focused on integration, whereas we are going to be executing."

When challenged about whether he might be spinning Expedia Inc.'s alleged advantages a little too favorably, Khosrowshahi shot back: "Integration is real. I've been through it. It's very difficult."

"Both Sabre and Cendant have been acquirers before," Khosrowshahi said. "They are experienced at integration, but certainly my experience is that it is a challenge."

Clearly, Expedia Inc. faces some integration challenges of its own, as evidenced by a wall in the fifth-floor reception area plastered with logo after logo of companies in the Expedia fold.

That might surprise those who equate Expedia Inc. with Expedia.com. In fact, that Web site is but one part of a much larger company that now includes Hotels.com, Hotwire, Activity World, Condosaver.com, Anyway.com, Classic Custom Vacations, TripAdvisor, TravelNow.com, HotelDiscount.com, AllLuxuryHotels.com, eLong and Expedia Corporate Travel.

Most brands have been under one roof -- that of the now-defunct IAC Travel -- for at least two years. And today, the company boasts, all Expedia.com and Hotels.com points of sale around the world operate through one inventory database and technology platform.

Khosrowshahi, who recently purchased a home in the Seattle area, spends his days contemplating things like supplier and international strategy. The global stuff is easy to focus on when wandering the hallways here (painted the blue and golden-yellow colors of the Expedia.com logo) because each conference room is named for an exotic destination. Like the others, the Casablanca room has a mural right outside depicting the local scene.

This morning, the talk is not of Casablanca but of "globalizing like there is no tomorrow."

Opportunity overseas

"The big three countries we are pushing are the U.K., Germany and France," he said. "We just launched in Italy, and we are looking into other markets as far as entry."

The U.K. business has scale and strength in the "city-break markets" (London, Paris and other large cities) but isn't strong in traditional tour operator "summer-sun destinations" like Majorca and the Spanish coast, Khosrowshahi said. "It's traditional summer getaways, and that is an area that we are certainly going to focus on going forward."

He also sees opportunity in Germany.

"The German market is trailing a lot of Europe as far as online adoption goes," he said, "and we need to get the German consumer much more comfortable with the idea of using an online travel agent and what an online travel agent represents."

How? By transforming Expedia.de into more of a travel site than an e-commerce site, Khosrowshahi said.

"We brand Expedia as not just an online travel player," he said. "If you need to call us, we'll have customer service ops waiting for you to help you. It's creating a softer face for Expedia."

In Asia-Pacific, with its majority control of eLong, Expedia Inc. has a presence in China, which Khosrowshahi terms "an extraordinarily promising market." The company, he said, is also gauging its prospects in Japan, where Western travel companies are weak and JTB Corp., Japan's largest agency group, is a force.

"We are going in with our eyes wide open," Khosrowshahi said. "I certainly don't think that the going in Japan will be easy. But in looking at the market, we certainly think there is a terrific consumer value proposition."

To a large degree, the freedom to pursue an aggressive global strategy is a direct result of having spun off the various companies and businesses that now comprise Expedia Inc.

That decision was made last year when Khosrowshahi and Barry Diller, the chairman, senior executive and controlling shareholder of Expedia Inc., were evaluating the corporate prospects of IAC/InterActiveCorp. The goal was to enable IAC, with its Home Shopping Network and other retail businesses, and IAC Travel "to be aggressive in both sides of the businesses," Khosrowshahi said.

"I think from a Wall Street perspective there was clearly confusion in what IAC represented," Khosrowshahi recalls. "It was a diversified business, but more than half of the profitability was from travel. So we were neither here nor there."

IAC completed the spin-off in July, and EXPE began trading on Nasdaq on Aug. 9 at $23.50 per share.

"The spin-off isn't going to make any difference in the way you operate, in the way you execute," Khosrowshahi said. "But, there is a strategic benefit to the spin-off in that we are now a pure-play travel company with real focus in the sector."

In addition, he said, the spin-off enabled the company "to use our stock as currency ... to make strategic acquisitions."

Given some of the business challenges at home, and with EXPE trading in early September at about a dollar lower than its opening price at spin-off, Expedia Inc. might have something to prove to Wall Street.

The challenge of leadership change

Khosrowshahi, 36, joined IAC in 1998 when he was in his late 20s and the company was still known as USA Networks. Given all the changes he and Diller have choreographed in the ensuing years, he doesn't seem to be losing sleep over Expedia Inc.'s current strategic challenges.

"The history of spin-offs is that it takes time for a new investor base to get interested in the company, to get comfortable with the track record and then to go from there," he said. "We're pretty comfortable that if we execute on business basics, the rest will take care of itself."

As for the structural and management issues, Khosrowshahi said the biggest challenge is that there has been "a lot of ... leadership changeover in the company -- and that includes me."

Khosrowshahi was IAC's chief financial officer until he became acting CEO of IAC Travel in December with the departure of Erik Blachford.

"We have recently restructured the company in a way that I think makes a lot of sense on a go-forward basis," said Khosrowshahi, whose DNA is all over the new Partner Services Group. "But that comes with operational and executional risk, which is natural in any business."

The Partner Services Group, which has been in existence since the spin-off, is designed to streamline supplier relationships and contacts worldwide for all Expedia Inc. properties.

The division is headed by its president, Paul Brown, who came from Hotels.com and Expedia North America. Brown had worked at InterContinental Hotels Group from 1998 to 2000.

Brown said suppliers want one point of contact at Expedia Inc., as opposed to dealing with the multitude of brands individually.

"The only person before who could speak for the whole company was Dara, which is not necessarily ideal in a company our size," Brown said. "Now the senior person [in a supplier company] has one person to talk to, which is me."

Khosrowshahi acknowledged that in the past, suppliers "weren't given enough attention." What little dialogue there was typically revolved around contract negotiations every few years.

"The size and acceleration of the business could certainly be intimidating from a supplier perspective because we never really took the time to explain ourselves," Khosrowshahi said. "But the fact is we are spending a ton of capital on technology and making our services better. We are going to get bigger, and we are going to get more global, and I think that will only make us a better partner for our suppliers."

One major wrinkle in supplier relations came last year when InterContinental Hotels Group, the world's largest hotel company, pulled its merchant hotel inventory off of Expedia.com and Hotels.com in a dispute over contract terms, trademarks, technology and consumer issues. With Brown having formerly worked at InterContinental, Khosrowshahi is now eager to do a deal.

"We are having a dialogue with them," Khosrowshahi said. "We would love to do business with them. It's just an issue of coming to terms."

Talking strategy with the boss

Strategy -- from minor tactics to corporate vision -- are refined in frequent discussions between Khosrowshahi and Diller, the chairman and CEO of IAC and the controlling shareholder of IAC and Expedia Inc. Khosrowshahi said Diller remains heavily involved in operations and has no intention of cashing in and getting out of the travel business.

"I talk to him pretty much every day," Khosrowshahi said. "He is very involved on a strategic level with overall direction and organizationally ... and he'll give me tips, he'll give me thoughts."

The two men face a number of gnarly issues, not the least of which are Sabre and Cendant. There's growing competition in the North American market, where merchant hotel margins have slipped. Lawsuits filed by the cities of Los Angeles and Philadelphia accuse Expedia and other major online players of pocketing hotel taxes.

Khosrowshahi said the merchant hotel business doesn't keep him awake at night.

"Actually, we're pretty hedged. That's because the raw margins are coming down as the ADRs (average daily rates) are going up. So, if you look at the actual revenue we make per room-night sale, it's pretty much flat year over year. In a downswing, you would expected to see ADRs contract, but I would expect to see our raw margins actually increase as hotels need us more as a selling tool."

The hotel tax issue arose when municipalities alleged that online companies charge consumers taxes at the retail rate but remit taxes on the merchant rate.

"I don't think the issue on occupancy taxes is an issue," said Khosrowshahi, whose company nevertheless is holding millions of dollars in reserve in case the litigation doesn't go its way. "We have been very conservative in our accounting, and I think our position is very solid."

Formidable competition

Khosrowshahi views the competition as solid. He says his counterpart at Travelocity, Michelle Peluso, has "built a good business" since taking over.

"The good news about Travelocity," he said, "is that they are building the business in a very rationale way. Last year a lot of us, and a lot of suppliers, over-spent in marketing to try to get share. I think all of us now are really optimizing our business model and optimizing market spend."

Khosrowshahi describes Cendant as "a pretty good competitor," too.

"Regarding what Cendant is doing with Orbitz and Cheap Tickets, it's more difficult for me to get a sense of how they're doing," he said. "They have a good executive, Mitch Truwitt. But, I think they are probably dealing with a bit of integration pain."

The larger question, though, is whether or not Expedia Inc. will be able to avoid integration pains of its own. With a fat bankroll at its disposal, the company seems poised for a giant acquisition. But Khosrowshahi said he "wouldn't expect much acquisition activity in the next six months."

"We are pretty happy with the plethora of companies that we have in-house right now," he said. "But the billion dollars gives us flexibility, and that's what's important."

In which case, it remains to be seen how far a $1 billion war chest will take a company that aspires to make the travel world spin around its ambitious global strategy?

"We are a $7 billion company," Khosrowshahi said. "Having a billion dollars of liquidity out there is, I think, appropriate."

To contact reporter Dennis Schaal, send e-mail to [email protected].

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