S&P Global Ratings: Expedia Group Inc. upgraded To ‘BBB’ on expectations for continued EBITDA growth and low leverage; outlook stable

• We expect Expedia's operating performance will continue to increase over the next 24 months on continued solid leisure travel demand, despite anticipated macroeconomic headwinds.
• S&P Global Ratings expects net leverage will improve to about 1.2x in 2023, on EBITDA growth, debt paydown, and strong cash flow generation.
  
• As a result, we raised our issuer credit and issue-level ratings on the company's senior unsecured debt to 'BBB' from 'BBB-'.
  
• The stable outlook reflects our expectation that the company will maintain leverage below 1.5x in the next 12-24 months, despite macroeconomic pressures.
  

S&P Global Ratings today took the above rating actions.

The upgrade reflects a robust recovery in revenue and EBITDA in 2022 and our assumption that EBITDA will increase over the next 24 months, resulting in leverage sustained below 1.5x.

Adjusted debt to EBITDA for the fiscal year ended Dec. 31, 2022, declined to 1.5x from 5.1x the same period last year on EBITDA recovery from the pandemic and debt reduction. Our 2023 low-1.0x net leverage forecast incorporates higher levels of capital expenditure (capex) investment spending, share repurchases, and dividends. Demand for leisure travel remains robust as the company indicated that January lodging gross bookings increased more than 20% versus 2019. Despite macroeconomic headwinds, we believe leisure travel will remain strong this year and the company will benefit from its growth initiatives, such as platform consolidation, new product innovations, and enhanced loyalty programs to drive customer growth. As a result, we forecast low-double-digit revenue and S&P Global Ratings-adjusted EBITDA growth in 2023. Notwithstanding, we expect Expedia will maintain a high cash balance to withstand any earnings volatility that may arise. Expedia's merchant business model adds inherent volatility to cash flow generation. Expedia generates most of its lodging revenues from facilitating the booking of hotel rooms and alternative accommodations as the merchant of record. The company collects the cash at purchase and holds it until travel is completed. If Expedia continues to add bookings to replace completed travel, cash will remain steady. This year, we expect bookings to increase in the low- to mid-double-digit percent range. We forecast this would result in about a $500 million cash inflow from deferred merchant bookings for the year. Still, while Expedia's business model allows for good working capital dynamics amid increasing bookings, significant reductions due to volatile travel trends could impair deferred merchant bookings and resulting cash holdings, raising net leverage.

We expect Expedia will continue to prudently manage its financial policy decisions so that net leverage remains in the low-1x area over the next 24 months.

While management has not issued a public financial policy leverage target, we believe it is committed to its investment-grade rating. We expect the company to reduce debt levels and manage shareholder returns to maintain leverage in the low-1.0x area going forward. The company historically operated with low-1.0x leverage prior to 2020 but had to take on additional debt for operating needs because of the pandemic. Expedia reduced net leverage to 1.5x at the end of 2022, from 5.1x in 2021 through improved operating performance and voluntary debt repayment.

There are no near-term debt maturities until 2025 but we believe the company will opportunistically reduce debt levels over the next 24 months. We believe the company would pull back on shareholder returns if macroeconomic conditions worsen more than we currently anticipate. In addition, we do not foresee a large debt-financed acquisition in the next 24 months. We expect improving travel trends will support revenue and EBITDA growth in 2023 and for the company to generate around $2 billion annually of FOCF and maintain good surplus cash balances.

Expedia benefits from a leading market position in the U.S., though margins have historically lagged its largest peer, Booking Group.

Our view of the company's business reflects its leading market share in the U.S., its meaningful scale, and good brand awareness. The company's whole-home rental platform Vrbo exhibited growth and helped drive higher average day rates (ADRs) through the pandemic, providing revenue support compared to the company's hotel offerings, which struggled during that time. We expect the leisure travel sector will continue to grow over the next two years. However, the leisure travel industry is sensitive to global economic conditions, and Expedia, like other travel-focused companies, is exposed to impacts on travel volumes and ADRs from economic cycles. Although we expect Expedia will maintain margins above 2019 levels due to benefits from prior cost initiatives, Expedia's margins are lower compared with its largest peer Booking Group. This is due to Expedia's greater use of the merchant business model, where the company collects the payment from the customer and pays the payment processing fees and hotel suppliers for the transaction, versus Booking Group, which predominantly uses an agency model, collecting a fee from service providers for rooms booked through its platform. Expedia has also depended on a larger number of brands, which has historically diluted the impact of its direct marketing spending. We believe some of the inefficiencies in direct marketing stemming mainly from it being a siloed as opposed to a centralized function have been addressed by the company's cost-reduction initiatives in 2020 and we expect its EBITDA margins will remain well above those 2019 levels over the coming years.

The stable rating outlook reflects our expectation that Expedia will make financial policy choices regarding share repurchases, dividends, acquisitions, and any other spending over the next few years that should enable it to reduce and maintain net debt to EBITDA well below 1.5x, incorporating any volatility from global economic conditions. In 2023, we forecast net leverage of about 1.2x, with high-single-digit to low-double-digit percentage revenue growth, 16% EBITDA margin, and $1.5 billion of shareholder returns.

We could lower the ratings if net leverage increases and remains above 1.5x. This could be a result of the company pursuing a more aggressive financial policy that prioritizes leveraging shareholder returns or acquisitions or deteriorating operating performance because of a more severe recession or market share losses.

Although unlikely over the next 12 to 24 months, we could raise the rating if Expedia continues to gain market share, broaden its revenue and earnings diversity, and expands EBITDA margin by about 200-300 basis points. The company would also need to maintain substantial surplus cash balances to withstand any earnings volatility.