Airbnb may have just fixed the worst part of its business. Time to buy?

Consumers are tired of how Airbnb (ABNB 3.60%) and other companies are showing their prices and some people in Washington, DC are trying to do something about it. It’s been in the works for a number of years, but the Hotel Advertising Transparency Act would require businesses to display the total price of their stay rather than attaching fees late in the booking process.

Airbnb fees are arguably the worst part of the experience. And luckily for users, Airbnb’s management isn’t waiting to be forced to do something about it. The company is proactively introducing its “all-in” pricing.

Here’s what it could mean for investors — and it’s surprising Not definitely a buy signal.

Airbnb’s new pricing strategy

Airbnb reported financial results for the third quarter of 2022 on Nov. 1. The stock sold off sharply afterwards as some worried about its fourth-quarter guidance. However, other investors were instead encouraged by record quarterly sales of $2.9 billion and record net income of $1.2 billion.

What struck me, however, was Airbnb’s new pricing strategy. Co-founder and CEO Brian Chesky said on Twitter: “I heard you loud and clear – you feel that pricing is not transparent and checkout tasks are tedious. That’s why we’re making four changes.” The conference call with investors said “all-in pricing”.

In December, Airbnb guests can see the total price of their requested stay, including cleaning and service fees. The best deals are prioritized by Airbnb’s search algorithm. And because it changes the algorithm, it will give hosts tools to ensure their prices are competitive and rank well in search results.

This sums up the first three changes for Airbnb, but the fourth is just as important. Some hosts have required their guests to clean up after themselves, despite charging them hefty cleaning fees. Chesky says that’s changing too. It is a reasonable request to ask guests to turn off the lights. Requiring guests to vacuum the entire house is unreasonable and will no longer be permitted.

It’s hard to objectively quantify exactly how good these measures are for Airbnb. But suffice it to say that the fees were perceived as sneaky and some house rules could be ridiculous. Airbnb is tackling these real issues with its platform – issues that could have pushed people towards hotels. So I would say these decisions are generally good for Airbnb guests and I would expect more bookings to result from these changes.

What that could mean for investors

I don’t think I need to convince readers of the merits of Airbnb’s decision; Every business should try to make their customers happy. And I would much rather invest in a company that is actively trying to improve its user experience than one that is indifferent.

However, Airbnb’s all-inclusive pricing could unintentionally hurt its business. As Chesky said, its algorithm will prioritize value stays and hosts will be given tools to assess how valuable their property is.

This could lead to a price war between the hosts. And when that happens, the average daily price (ADR) for an Airbnb could drop.

At the end of 2019, the average Airbnb stay was about $110 per night. But that number has steadily increased. In Q3, ADR increased 5% year over year to $156 per night. Consider that almost 100 million nights and experiences were booked in Q3. Therefore, the $46 difference in ADR between 2019 and now results in a Celebration $460 million difference in gross booking volume.

Airbnb reduces booking volume to generate revenue. Therefore, if ADR falls due to the new pricing strategy, revenue would suffer a discount even if bookings remain strong.

To be clear, I believe there is room for a price war between Airbnb hosts. Consider that Airbnb ended 2021 with the highest supply of apartments ever, with supply up another 15% year over year in the third quarter. Many Airbnb hosts have switched to the platform in recent years, drawn by the possibility of high cash-on-cash returns (a desirable metric for investors) on their real estate investments.

There is a lack of good data to determine an average profit margin among Airbnb hosts. But anecdotal evidence from the real estate investing community points to healthy profit margins with plenty of downside. After all, many hosts are better off cutting prices to keep bookings and cash flow positive than having empty seats.

I would hardly suggest selling Airbnb stock at this news. On the contrary, I’m still a buyer. However, it’s worth keeping an extra close eye on the company’s ADR in the coming quarters to see if a downward trend in prices will hurt Airbnb’s revenue.

Jon Quast holds positions at Airbnb, Inc. The Motley Fool holds positions at Airbnb, Inc. and recommends Airbnb, Inc. The Motley Fool has a disclosure policy.

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