Travelzoo Loses Altitude

The stock's 400%-plus run-up hits a heavy-volume speed bump.
Publish date:

Updated from 7:55 a.m. EDT

The party in online travel service


(TZOO) - Get Report

took an uncharacteristic break Friday, with the stock tumbling 10% after a run-up that brought its forward price-to-earnings multiple into the triple digits.

The stock closed down $4.69 to $41.10 on well over twice the average daily volume.

Coming into Friday, Travelzoo was up 429% since the start of the year. Daily volume, which had averaged fewer than 10,000 shares back in January, now regularly tops 1 million. Before Friday, the stock had risen 15% this week alone.

The feeding frenzy in Travelzoo began in late April, right around the time the six-year-old vacation dealmaker reported first-quarter earnings. News that the company's revenue surged 70% to $6.4 million and earnings rose 160% to $1 million got the stock going, and it has been surging ever since.

Has a normal reaction to positive earnings news gotten out of hand? The run-up in Travelzoo's stock has given it an eye-popping valuation of 118, evoking memories of the bubble. This for a company that is almost totally dependent on Internet advertising, a notoriously fickle master.

To put Travelzoo's valuation into perspective, consider that Internet behemoth



trades at a forward P/E of 62, while shares of market newcomer


(GOOG) - Get Report

change hands at 47 times expected future earnings.

The spike in Travelzoo's stock has boosted the company's market capitalization by more than $570 million. Travelzoo has gotten so big so fast that it has moved from a listing on the OTC Bulletin Board to the Nasdaq Smallcap Market to the

Nasdaq National Market

, all within the span of eight months.

No one is rejoicing more than Ralph Bartel, the company's 38-year-old founder, chairman, president and chief executive. Bartel, who owns 87% of the company's 15 million shares, is worth $600 million on paper, enough money to make a Google insider blush. This year he already has sold $2.5 million in stock, although none since May, when shares were selling around $20.

It's not just earnings driving Travelzoo to astronomical heights. The stock owes its fantastic run to a combination of hype spurred by Google's recent initial public offering, an industrywide revival in Internet advertising, and supply scarcity, given that only 2 million shares are available for trading.

Travelzoo's takeoff coincided with a

particularly heady period for low-float issues early this year, a run that proved short-lived for most of the stocks involved. But while its fellows have fallen to the wayside, Travelzoo's momentum hasn't wavered, and many have started to view it as the long-awaited successor to Nasdaq moon-missile




"This has become a pure momentum stock motivated more by technicals than anything else," says George Mihalos, a Brean Murray analyst. "What you have seen is the mother of all short squeezes."

Nearly a third of Travelzoo's float is sold short by investors betting the stock will fall in price. As a result, every time the stock rises, some short-sellers must buy shares to close out positions. This surge of buying invariably pushes the stock higher and often leads to more short-covering.

The stock's low float also makes it difficult for would-be short-sellers to find a broker willing to lend them shares.

But Mihalos, the only analyst following Travelzoo, believes a decline in the stock's shares is inevitable. That's why he has had a sell recommendation on the stock since initiating coverage in July. While Miahlos says Travelzoo's Web site offers an impressive array of information on travel-related specials, the company's fundamentals can't sustain the run-up in the stock.

"Despite improving financials, the current valuation is unwarranted," says Mihalos, whose firm does not have an investment banking relationship with Travelzoo. "There is competition in the space. There's nothing that can't be replicated."

Travelzoo officials declined to comment, saying it would be inappropriate, given all the "volatility" in the stock. But when compared with online competitors such as








, Travelzoo ranks as one rather small fish in a big ocean.

Over the first six months of 2004, Travelzoo had $13.6 million in revenue and $2.3 million in net earnings. By comparison, Orbitz had revenue of $146 million and net income of $12 million, while had $483 million in revenue and $15.7 million in net income.

Travelzoo's fans point out that the company, while smaller than other online ventures, is growing at a faster pace. Revenue is running 70% higher at the company compared with a year ago, while profits are up over 100%. But a good deal of that revenue gain stems from an increase in advertising rates earlier this year.

The company also will likely be forced to spend more on advertising in the future to keep pace with its competitors. Over the first six months, it spent $7.1 million on sales and marketing. Orbitz, meanwhile, spent nine times that amount during the same period. With $5.2 million in cash on hand, Travelzoo will have to look elsewhere for money if it gets into a spending war with its many competitors.

Some are beginning to speculate that Travelzoo may use its frothy valuation as an opportunity to do a secondary stock offering, in order to free up more stock for trading and raise additional capital. Others suggest Travelzoo could use its stock to make an acquisition in order to expand its business.

But for now, all of that is just conjecture. For the moment, Travelzoo is nothing more than one awfully pricey stock.