eCommerce Industry Stock Outlook - March 2013, Part 2
(Note: This is Part 2 of the eCommerce Industry Stock Outlook. Read Part 1 here.)
Although retail e-commerce is the segment that most of us are interested in, it is in fact just a small part of the overall ecommerce market. In fact, retailers and service providers generate just 4.4% and 2.3%, respectively of their revenues online, a slightly higher percentage than they were in the prior year. The U.S. Census Bureau categorizes these two segments as business-to-consumer.
According to the U.S. Census Bureau, the manufacturing sector is the largest contributor to e-commerce sales (46.4% of their total shipments), followed by merchant wholesalers (24.6% of their total sales). These two segments make up the business-to-business category.
This places the business-to-business category at 90% of total e-commerce sales, with the balance coming from the business-to-consumer category. The latest numbers from the Bureau suggest that the fastest-growing segments were manufacturing and retail. [All the above data from the U.S. Census Bureau relate to 2010, as published in May 2012]
The industry is evolving very rapidly, so data collection and evaluation are particularly difficult. Consequently, one has to rely largely on surveys by both government and private agencies.
In this section, we will discuss other segments of the e-commerce market, including travel, payments, security and advertising.
Travel
The U.S. Commerce Department expects international travel to the U.S. to continue increasing over the next few years. Visitor volume is currently expected to increase 6-8% a year from 2012 to 2016 leading to a 49% increase in the number of users during the period. Visitors from the Middle East are expected to be the slowest-growing (29%). South America, Asia and Oceania growth rates are expected to be comparable at 83%, 82% and 82%, respectively.
The fastest growth is expected to come from China (232%), South Korea (200%), Brazil (150%), Russian Federation (139%) and India (94%). Travel and tourism is one of the country’s strongest industries, contributing a trade surplus in each of the last 20 years.
According to research from eTrack, eMarketer and Alexa.com compiled in September 2012, Internet-based travel booking revenue has grown 73% over the last five years, with 57% of all travel reservations being made online. The bookings and revenue generated by source and category (latest estimates) are represented in the following graphs.
The top travel booking sites are Booking.com, Expedia.com, Hotels.com, Priceline.com, Kayak.com (recently acquired by Priceline), Travelocity.com, Orbitz.com and Hotwire.com. Since Booking.com and Kayak are part of Priceline (PCLN) and both Hotels.com and Hotwire.com part of Expedia (EXPE), this narrows down the top companies in the segment to Priceline, Expedia, Orbitz Worldwide (OWW) and Travelocity. However, there are several others worth considering, such as TripAdvisor (TRIP), which was spun off from Expedia.
According to a report by PricewaterhouseCoopers, the improving economy will result in a 1.8% increase in demand for U.S. hotel reservations this year, which along with a 0.8% increase in hotel supply will lead to higher occupancy rates (62.0%). As a result, RevPAR will be up 5.9%.
However, most players have extensive operations in Europe and a growing presence in Asia, which means that they will be affected by growth rates in these regions as well. PricewaterhouseCoopers expects RevPAR growth to slow down in Europe, although some cities will see growth while others (most notably London and Madrid) will see declines.
The global travel market grew 4% in 2012 and is expected to grow another 2-3% this year. The Asia/Pacific region is expected to see the strongest growth (up 6%), followed by Europe and South America (mainly Brazil) at 2% each. North America (mainly U.S. is expected to be flat this year [World Travel Monitor 2012].
Smartphones are playing a key role in travel purchases, especially for last minute purchases. eMarketer expects smartphone travel researchers to grow from 23.7% of total online travel researchers in 2011 to 53.9% in 2016. Similarly, smartphone travel purchasers are expected to grow from 12.6% in 2011 to 32.5% in 2016.
Another report by PhocusWright mentioned that when online penetration of the travel market reached 35% in any country, growth rates were likely to slow down to single-digits. The research firm mentioned that only the U.S., U.K. and Scandinavia had reached this level of penetration and most other markets across Europe, Asia and Latin America would continue to show good growth rates.
Payment Systems
With practically all market research indicating solid growth in ecommerce sales over the next few years, online players are vying with each other to come out with convenient and secure payment solutions.
The FIS Mobile Wallet from Fidelity National Information Services Inc. (FIS) is basically a bar code reader that feeds information related to the purchase into the user’s smartphone and uses it as a medium to transfer the information to the cloud. Online purchase of merchandise is also possible. The solution provides maximum security, since the transaction is carried out entirely in the cloud through the retailer’s and banker’s applications and personal information is not shared at the time of purchase.
While QR code payments (as the technology is called) have already been made by half the smartphone users in the U.S. (report compiled by eMarketer), the usage was mainly out of curiosity. It appears that the safety of the system comes at a price, which is the time it takes to complete a transaction. This is the reason that Google is still betting on its digital wallet.
Google’s digital wallet allows a customer to make a payment by waving his mobile phone over a POS terminal. Other than the convenience of the whole thing, the main attraction being highlighted is the security of the payment channel, since neither the customer nor the retailer would be recording the personal information related to the customer. Adoption of the device, although it is some way off, will have a remarkable effect on the volume and value of mobile transactions, since it should increase the percentage of higher-value sales.
However, the cost of POS terminals is a downside to the system that could easily turn away retail partners. This is an evolving area and much could change over the next few years.
Visa (V) has also jumped on the bandwagon, claiming that its V.me is a digital wallet with a difference. Not only can it be used to make mobile contactless payments (bar code, QR code or NFC), but it can also be used for online checkout (it remembers card details from several providers).
The greatest success however is currently being enjoyed by eBay’s Paypal, which has seen some success at traditional retailers such as The Home Depot (HD) and Office Depot (ODP). One drawback that remains is that although the system is itself secure, there is always a security risk for a buyer not used to dealing with Paypal, since it requires personal information.
Mobile banking is set to grow very strongly over the next few years, according to Juniper Research. The research firm estimates that a billion mobile devices (or 15% of the installed base) will be used for banking transactions by 2017, up from an expected 590 million at the end of this year. Most banks already offer at least one mobile banking offering, with some larger banks offering more than one option. Messaging remains the most popular across the world, but apps are likely to remain the preferred channel in most developed markets.
Mobile banking has not picked up sufficiently in either the U.S. or Canada, due to security-related concerns. However, an analysis by Deloitte shows that mobile banking could become the most-preferred banking method by 2020. The study estimates that 20-25 million gen Y consumers will become new banking customers by 2015.
A banking.com study shows that 48% of "Generation Y" (gen Y) consumers are already using online banking services. Moreover, their preference for online banking is so high that around 30% said they would consider switching financial institutions if they did not provide the service. Both online and mobile banking by gen Y largely consists of checking account balances and transferring funds, although they also like to pay bills on the platform.
It is believed that high smartphone penetration, higher income within this group and greater digital sophistication will drive increased demand for mobile banking services. Since mobile banking is expected to be the most cost efficient for banks, investment in technology to improve and expand mobile banking services is likely to increase.
Security
With online transactions expected to boom over the next few years, the topmost concern remains security. While banks will spend significantly on secure payment systems, hackers are expected to have a field day, largely targeting the flood of customers going online. Last year saw a huge increase in security breaches, something that may be expected to continue.
Recent research from McAfee revealed certain important facts: first, that mobile malware was primarily spreading through apps; second, 75% of infected apps came from Google Play; third, the chances of downloading malware or suspicious URLs was 1 in 6; fourth, 40% of malware families disrupt the system in more than one way, which is an indication of the increasing sophistication of hackers; and fifth, 23% of mobile spyware can result in data loss.
What is even more alarming is that even “secure” payment platforms like digital wallets using NFC technology can now be infected by worms within close range of devices (“bump and infect”). An infected device can give out personal information during the payment process that can be used to steal from the wallet.
Mobile security offerings currently come from AirWatch, Apple (AAPL), Avast, Check Point, Cisco (CSCO), IBM (IBM), Juniper (JNPR), Kaspersky, McAfee, Microsoft (MSFT), MobileIron, RIM (BBRY), Symantec (SYMC) and Trend Micro, among others.
Alternative payment systems will continue to gain popularity. While some of these payment systems, such as eBay’s PayPal have been around for a while, other systems, such as Google’s digital wallet, V.me and the FIS Mobile Wallet are still in the making. Alternative payment systems never really gained momentum in the past because of the low volume of transactions. However, as online transactions continue to increase, many more such systems could suddenly become more available.
We expect mobile security to become a major focus area for technology companies, since this is the stumbling block to payments through the mobile platform (currently just 2% of U.S. online spending).
Digital Advertising
The U.S. digital advertising market has seen some very strong growth in the past few years, despite the recession that impacted the entire economy. eMarketer estimates that the market will grow 16.6% in 2012 to $37.3 billion, compared to the 21.7% growth in 2011 (latest available data).
However, growth rates are expected to drop over the next few years: 13.9% in 2013, 12.4% in 2014, 8.7% in 2015 and 6.4% in 2015. Falling growth rates notwithstanding, the share of digital ad spending in total ad spending is expected to increase from 20% in 2011 to 29% in 2016. By contrast, TV ad spending is expected to drop slightly from around 38% of total ad spending in 2011 to less than 37% in 2016. Print is expected to decline even more significantly from 22.6% in 2011 to 16.4% in 2016.
The current strength in online advertising is coming primarily from the growing popularity of the display format. Of all the forms of online advertising, display (including video, banner ads, rich media and sponsorships) is expected to see the strongest growth over the next few years. Also, of all the forms of display advertising, video and banner ads are expected to grow the strongest from 2011 to 2016.
Search will remain supreme until 2016, gradually giving way to video and banner ads, both of which will grow rapidly. The lower pricing of video and banner ads has made them popular with brand advertisers, so ad inventories are solid. Another factor favoring display ads is the proliferation of smartphones, where the smaller screens make display ads more effective than text ads.
Google will remain the most significant player in digital advertising throughout the forecast period, growing its share from 40% in 2011 to 44% in 2014. Yahoo, Microsoft, Facebook (FB) and AOL will account for 7%, 7%, 7% and 2% share, respectively by 2014.
The underlying drivers of growth of the display format are the continued increase in the number of users, greater propensity of users to consume online, a growing inventory of advertisements that serve to lower advertisement prices and the need to create brand awareness online.
Search advertising is expected to remain popular, because results are measurable, and therefore, more predictable than other media. This also makes the market more resilient in recessionary conditions, since advertisers are more confident about the results of their spending.
OPPORTUNITIES
As evident from the above table, the top picks in the sector are online travel booking companies Priceline, Expedia and Orbitz Worldwide. International expansion is a key factor driving growth for these companies and collaborative agreements with local players are helping. The ADR is something to watch here, as lower-value inventories are on the rise.
We are also cautiously optimistic about Google despite its recent history of misses, given the company’s market position, business stability, expected growth rates, strategic execution and positive estimate revision trend. The current uncertainty is related to the recently-acquired hardware business, which is impacting its margins. But this is just a small part of the overall business and we remain confident about management execution and planning that have been commendable in the past.
While Facebook offers much higher growth, you also have to pay a higher multiple for it. This doesn’t make a lot of sense.
WEAKNESSES
TripAdvisor is doing extremely well right now and the company’s decision to invest in offline advertising (TV) makes sense. However, estimates have fallen as a result, pulling down the Zacks Rank. Given the increased expenditure, growth will moderate in the next few quarters. However, the stock remains a good pick for long-term investors.
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