Hotel Groups

More than just free towels

.. not that I condone such wanton criminality! Rather, having looked at the cheapest stock on the FTSE – though that title has been rather cruelly wrested from its grasp – I found myself looking at yet another hotel group yesterday. Looking at two in such quick succession tells me there’s something interesting about the sector, so I decided to just cut to the chase and look at all the listed hotels I could find. 5 popped up when I googled around and used Sharelockholmes, but MWB didn’t show up in either of those searches – presumably because it’s not technically a hotel company – it’s a holding company for a bunch of investments the managers find interesting. I added it in since I knew about it, but it’s possible there’s a few others that have slipped under the radar by virtue of the blurry lines in investing.

Just looking at it gives you an immediate story; the large and established hotel groups aren’t actually particularly cheap. Millennium and Copthorne trades at below tangible book value and a reasonable multiple of historic and forward earnings, though is still significantly more expensive than its smaller listed peer, Park Plaza. Intercontinental is expensive whichever way I look at it. The price of the smallest three in my list suggests some serious issues. I touched on some in my post in MWB, and wouldn’t be surprised to find similar problems in Peel and Hotel Corp.

A dash through the reports to get a feel for it, then, and Intercontinental’s valuation is baffling to me. Even analysts aren’t forecasting particularly exciting profit growth, so the most probable explanation – that I was missing a big factor that’d set them rosy in the next few years – seems to not be the case. Almost £5bn for about £200m of net tangible suggests the market values their brands, which include the obvious, Intercontinental, but also Holiday Inn and Crowne Plaza, at an exceedingly high level.

Millennium and Copthorne seem far more up my street – their half yearly report, released earlier this month, seems to show things progressing pretty steadily. There are a number of volatile numbers on their income statement and management is cautious given the ‘global economic uncertainty’, but as a multiple of last year’s profits the current market cap doesn’t seem particularly expensive. Unlike Intercontinental’s significant level of debt, Millennium and Copthorne’s balance sheet has enough cash to pay off a big chunk of it  (enough to make the overall picture look trouble free) and – notably – you’re paying a discount to the tangible book value.

Park Plaza, coincidentally, released a half yearly today – and things seem to be going pretty well for them, with revenue up ~16% and profit up ~30%. Their expansion seems to be understandably slowing down, and the balance sheet is pretty leveraged – a great deal of both debt and assets against a relatively small amount of equity, but you’re paying about half of net tangible assets on the market anyway. The biggest issue on first glance is the ownership of the shares – it looks like management owns over 60%. I really don’t like the conflicts of interests that come with having a board possessing that much of the vote.

Peel Hotels shares the same fate as Park Plaza for me then, as the first thing I was presented with after searching their investor relations section was Robert and Charles Peel controlling 60% of the share capital between them. The company looks very cash generative given a hefty depreciation charge in the reports, and management sound like they’re aiming to continue paying down debt without being reckless with regard to maintenance and improvement etc. Reading their brief interim report did have a nice positive effect too in that – as often happens when reading that sort of document – it reminded me what I like about small businesses (which are, to be honest, often founder/family owned) and their straightforward tone and clear priorities. That doesn’t completely mitigate the conflict of interest issue, though, as a final word, I will note that I rubbed my eyes at the ‘directors remuneration’ section of last year’s annual report – £20,221 and £27,544 for the two executive directors. I can’t see any other sort of exorbitant option schemes or anything, either. How refreshing!

Finally, with regard to Hotel Corp – a no go as expected. What wasn’t expected was for that PTBV figure – negative 0.01 – to actually be correct. As it turns out the company is indeed swimming in debt, and with the write down of the value of its hotels – after a break from the company who were managing them on a day to day basis (and the basis on which the previous valuation was built) – the company looks basically worthless.

Millennium and Copthorne and Park Plaza are the most interesting from my point of view, then, and at very different ends of the size spectrum with regard to market capitalisation. I’d need to dig deeper at that expensive looking Intercontinental valuation, too, since it might say something about the sector as a whole.

7 Replies to “Hotel Groups”

  1. red.

    I plugged IHG into my spreadsheet and it spat out the same valuation as the market. IHG has transformed itself into an asset-light franchise model earning ever increasing returns on tangible capital — 30% last year, 60% this year, only 11% at the beginning of the noughties. The negative working capital is no cost financing for growth. It will grow with time, and probably at a faster rate than world GDP for the next twenty or thirty years. It’s been paying off debt at a very fast clip. All good things. It’s trading at 20x trailing cash flow which is quite good but not, I think, alarming.

    • Lewis

      Hi red,

      Out of interest, then; what does it say about Millennium and Copthorne and, as an addendum, you almost sound as if you’re expressing a preference for businesses with fewer assets to those with more, since the latter implies weaker returns on capital ceteris parabis. Is that a fair statement?

  2. red.

    Oh yeah, the more asset light the better because more of the gross profit gets passed down to profit (via lower depreciation) and more of the profit is distributable (because growth needs minimal capex). I know lots of value investors prefer some that their shares be backed by hard assets but I think that’s an artifact of value investors being crowding around the “price” end of the equation rather than the “value” end, if you get my meaning.

    My spreadsheet is a bit parochial and (furstratingly, and for some reason that I can’t quite understand) can’t pull down data of non-US listed companies. I’ll have a quick look at their numbers and throw out an approx figure.

    • Lewis

      I get your meaning – I suspect it is my failing!

      My distrust for particularly asset-light companies probably comes from the fact I:

      a) expect return on tangible assets to be mean reverting in the medium term and
      b) rarely find intangibles present a sufficient barrier to entry to deny the rationale for the above

      Everything else equal, I’d assume a company earning a significantly higher return on capital and trading at a significant premium to book value to be worth less than a company with a poor return on capital, trading at a discount to book value. Both companies could trade at an identical multiple of cashflow/earnings but, if mean reversion holds true, the first will probably experience weaker returns going forward and the second will probably experience better. The duality of that seems appealing!

  3. red.

    Millenium Copthorne: great margins but horrible asset turns give an average return of 5.7% on invested capital. I have to believe that that’s below the cost of capital, so as it stands it is better off liquidating than staying in business and offending the gods of capital allocation. Value = (5.7%/9% cost of capital) x 2333 in operating assets = 1,477. Less debt plus cash = 1,215 = 385p per share.

    I see that the share price is at 484: that probably reflects optimism as its just had its best ever year in ROC terms, at 8.3%. Still destroying value but not quite as extravagantly as in previous years!

    “If mean reversion holds true”: I’ve often thought that that is its own kind of abstraction, no different in than sense than “brand” in asset-light companies. I know mean reversion works when applied to a broad array of stocks but it still gives me the willies. Maybe it’s because I started my investing life in bankruptcies.

  4. Roddy

    Re Millenium – Have a look at the annual report – in particular there is a single line called excess valuation – you need to sum up the last three years excess valuation to get a fuller picture as they revalue one third of the portfolio each yr. For an owner’s NAV I think this number then needs to be added to the reported NAV

    Secondly argueably for owner earnings we need to be adding the increase in NAV that this line reflects.

    Thirdly it is important to balance risk and this co. is virtually debt free.

  5. red.

    Thanks for the tip off.

    + GBP 90 million gain appraised value of the properties.

    So the properties look better and the business looks worse. Not my thing. For safety and 4% yields, I prefer bonds.

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