The coronavirus crisis has exposed a crucial weakness in Airbnb's business model and it's likely to haunt the $31 billion company's IPO plans

• Airbnb was long thought to be the standout among Silicon Valley's giant startups, thanks largely to its "asset-light" business model that helped it post regular profits.
• But the coronavirus pandemic seems to have exposed a flaw in its model - customers want it to be responsible for cancellations, but it has to balance their needs with that of its property manager partners.
• In effect, cancellations could hit Airbnb 's income statement twice: once in the lost revenue it incurs from giving renters back the payment for their booking, and a second time, if Airbnb wants to make its rental owners "whole" by compensating them for the reservation booked on their property.
• On Friday Airbnb announced a more generous cancelation policy for certain renters affected by the coronavirus. But it has not given any indication that it would compensate hosts for the cancelled reservations. And there's a good reason why.
• Experts say that refunding renters for one month of cancellations during the pandemic could cost the company hundreds of millions of dollars in lost revenue. Refunding hosts would cost billions of dollars.
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Airbnb has one of the most envied business models in Silicon Valley's elite club of unicorns.

Without building any hotels or apartments of its own, and without hiring an army of desk clerks, bellhops or cleaning staff, Airbnb has created a multi-billion dollar business that offers travel accommodations around the world.

The 12-year old San Francisco startup was last valued by private investors at $31 billion, about the same as the nearly century-old Marriot International hotel chain's market value.

Airbnb basically created an eBay-like marketplace that pairs travelers with property owners, allowing the latter to set the terms of the rental. That asset-light strategy helped make Airbnb, which takes a commission from each transaction, one of the few unicorns to post regular profits.

But the coronavirus pandemic now appears to be exposing a significant weakness in that business model. In a time when people are cancelling travel and hotel reservations left and right out of fears and precautions, consumers want Airbnb to allow them to do the same, no questions asked. But the company has to balance their needs and desires with that of its other constituency - the property managers that list their accommodations on its service.

Satisfying consumers is going to be costly for Airbnb. Making things right by property managers could be financially impossible.

Covering just one month of cancellations resulting from the coronavirus could cost Airbnb more than $2 billion - almost all of the cash it has on its balance sheet - if the company decided it wanted to keep both sides of its marketplace happy, experts estimate.

"It is really complicated," said Apostolos Ampountolas, an assistant professor of finance and revenue management at Boston University's School of Hospitality Administration. It's not easy to figure out, he added, "how to handle the cancellations and certainly how to support everyone."

COVID-19 has been wreaking havoc on the travel industry

The complications and cost couldn't have come at a worse time for Airbnb. The company announced in September that it planned to go public this year. But that plan looks to be increasingly in doubt. Other unicorns, such as Uber and Lyft, have fared poorly since their IPOs and WeWork wasn't even able to complete its offering.

Airbnb had the chance to stand out from those companies because of its profitability. But it no longer has that to hang its hat on. It reportedly posted a $322 million loss in the first nine months of last year. And that was before the pandemic. The company has seen bookings collapse as much as 96% in the areas of the world hit hardest by the outbreak, according to AirDNA, a research firm that focuses on the short-term rental market.

The COVID-19 pandemic has been devastating to the travel industry as a whole. Airlines, cruise line operators, and hotel chains have reported sharp increases in cancellations and steep drops in new bookings as the virus has spread. Many companies in the industry have proactively adjusted their cancellation policies to accommodate the upheaval caused by the epidemic.

By contrast, Airbnb has seemed to be caught flat-footed. It's announced several policy changes but none of them full measures to make consumers whole. Indeed, as recently as Wednesday, Airbnb said it would leave the decision on whether to allow epidemic-related cancellations and offer refunds up to property owners.

That decision seemed to reflect the nature of its service. Because Airbnb sees itself as a kind of intermediary, a matchmaker of sorts, it largely allows travelers and property managers to reach their own agreements on the terms of bookings. Property manager set both their own rates and their cancellation terms. Many have set strict terms, declining to give a full refund to guests who cancel even weeks or months in advance.

But Airbnb's policy of allowing property managers to set their own terms and bar many cancellation refunds has come under fire in the wake of the outbreak. People in large numbers have been cancelling plans due to the growing number of travel restrictions, the desire to take precautions against catching or spreading the virus, and fears about it.

Airbnb has expanded its cancellation policy

On Friday, seemingly in response to such criticism, Airbnb changed course. The company announced it would allow customers to cancel reservations made on or before that day for US bookings in which the check-in date is April 1 or earlier. It also said, following President Trump's announcement of a ban on travel to and from large parts of the European Union, that it would allow US customers who had made reservations in the affected areas to cancel them and get a refund.

The policy still could leave lots of travelers in the lurch. Only US-based travelers are eligible for refunds on bookings made to the affected areas of the EU. Foreign travelers aren't; an important consideration for a company that has a global user base. And the refunds aren't available for any bookings made in countries outside of those EU countries, the US, South Korea, or China, nor for travel plans that start after the beginning of April.

Airbnb's policy change "is absolutely a step in the right direction," said Henry Harteveldt, a travel industry analyst with Atmosphere Research. "The problem is there's a staircase of steps that need to be taken, so there's still more work to be done."

Cancellations could get costly

The problem Airbnb faces is that even this limited policy exception could cost it dearly. The total amount of bookings made through Airbnb for travel in the US is about $30 billion, estimated Scott Shatford, CEO of AirDNA. That's about $2.5 billion in bookings per month, on average.

Airbnb typically takes about 12% of the total booking revenue, Shatford said - 3% from property managers and 9%, on average, from guests. That would put its US revenue at about $3.6 billion a year. If the company loses the equivalent of a month's worth of US reservations, then, it would stand to lose about $300 million in revenue.

To put that in perspective, Airbnb generated about $550 million a month in revenue total, worldwide in the third quarter last year, according to a recent report in The Wall Street Journal.

"It's a pretty admirable move ... on Airbnb's part to do the right thing [for customers], and not do the right thing for their bottom line," said Shatford.

But that move, collectively, will be even costlier for the property managers who list on Airbnb's service. If travelers end up cancelling a month's worth of US bookings, the owners of the rental proprieties on Airbnb would be out some $2.2 billion.

As things stand now, the rental property owners would simply have to swallow those losses. Airbnb is not planning on making them whole. And it's easy to understand why.

The company had about $3 billion in cash on hand as of February, according to The Journal report. If Airbnb tried to reimburse property owners for the cancellations, doing so could wipe out all of its cash within two months.

It's "so much money that [Airbnb] would not be able to exist," Shatford said. "I don't think [reimbursing property owners] is a possible outcome unless they had some crazy insurance policy."

The danger for Airbnb is that even its limited refund policy could antagonize property managers. While it's the biggest player in the short-term rental game, hosts do have other options in the form of Vrbo and Booking.com. In contrast to Airbnb, Vrbo has kept the onus for cancellations and refunds on the hosts who list with it.

Few property managers are likely to swear off Airbnb completely, because it drives so much business, Shatford said. But some may choose to take their properties off its site in the short term to protest its cancellation policy changes.

"I think that's more likely" than hosts permanently dropping off of Airbnb, he said. "They can turn off that Airbnb listing during this crisis mode, and they can toggle it back on, hopefully when the dust settles."

Either way, the coronavirus crisis has made clear that Airbnb's business is a lot less solid than many have thought.

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• Read more:
• Airbnb bookings in coronavirus hot spots have collapsed by as much as 96% since January
• With Airbnb reportedly considering a delayed IPO amid the coronavirus outbreak, here are 6 of the company's challenges that are worrying investors
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