Why Webjet Limited and Flight Centre Travel Group Ltd could be merger candidates

Travel-related shares could come under the microscope as takeover targets.

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Industry consolidation is a natural by-product of rapid industry growth. It generally occurs when established market participants use cyclical downturns to strengthen their foothold in a particular sector by acquiring smaller, less-established companies.

History shows that merger and acquisition (M&A) activity often spikes in a particular industry following prolonged periods of above average growth, as large industry participants flex their muscles to take advantage of slowing growth (and depressed share prices). An example of this at the moment is the oil and gas industry, with stalwarts Oil Search Limited (ASX: OSH), Santos Ltd (ASX: STO) and Woodside Petroleum Limited (ASX: WPL) all assessing strategic acquisitions or divestments in light of low oil prices.

Following years of undisturbed growth and increasing market competition, I believe the travel industry could be the next big battlefront for M&A activity.

American majors

M&A activity is already in full-force in America with market leaders Expedia, Inc. and Priceline Group Inc spending big to acquire smaller travel and booking companies to increase market share.

For example, in the last 12 months alone, online travel agency (OTA) giant Expedia purchased HomeAway, Inc. (owner of Stayz), Orbitz Worldwide Inc and Wotif.com in an attempt to increase its global presence in OTA travel bookings. The shopping spree follows Priceline's acquisition of Agoda in 2014, resulting in Priceline and Expedia now controlling a whopping 64% of the Australian OTA travel market (according to IBISworld).

This means Australian OTA (and storefront) travel companies have some catching up to do.

Australian landscape

Unlike America, Australia's travel industry is littered with individual market players like Flight Centre Travel Group Ltd (ASX: FLT), Helloworld Ltd (ASX: HLO) and Webjet Limited (ASX: WEB). Whilst their respective share prices have performed well in recent years, it is unlikely that their outperformance can continue as the sector becomes crowded with international competitors and direct booking facilities from service providers.

To make matters worse, IBISworld forecasts annual industry growth to slow to 8.1% over the next five years, down from an average 13.8% per annum for the last five years. The slowing growth, which is compounded by increasing competition, means the logical transition for companies like Flight Centre, Helloworld and Webjet is to hunt for smaller acquisition (or merger) opportunities to maintain market share and continue profitable growth like Expedia and Priceline have done.

Accordingly, M&A activity could be on the cards for Australian travel-related stocks.

ACCC concerns

A sticking point for travel industry consolidation in Australia, however, could be opposition from the Australian Competition and Consumer Commission (ACCC).

Given the large market share of global giants Expedia and Priceline, it is unlikely that a merger between established Australian participants Flight Centre, Helloworld and Webjet would be authorised by the ACCC (as it could substantially reduce competition in the Australian travel market), in my opinion.

Therefore, M&A activity in the Australian travel sector is unlikely to be between large players Flight Centre, Helloworld and Webjet. This does not, however, mean they cannot be acquirers.

Foolish takeaway

Investors should not buy travel industry stocks on the premise of a potential gain from a takeover offer. Although Australia's travel industry remains fragmented and ripe for consolidation, I believe the ACCC may block takeovers between large players (e.g. Flight Centre, Helloworld and Webjet) and this means windfall gains will be few and far between.

Motley Fool contributor Rachit Dudhwala has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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