Hotel stocks have outperformed the benchmark Nifty 500 index in the last six months. Shares of EIH Ltd and Indian Hotels Co. Ltd, owners of the two leading luxury hotel brands Oberoi and Taj, respectively, rose around 20%. The Nifty 500 index paled in comparison as it delivered a marginally negative return.
The rising numbers of inbound and domestic travellers, with occupancy rates at hotels inching up 200-300 basis points in the last 12-18 months to 72-74%, are a sign of changing fortunes. The robust demand for hotel rooms in business destinations indicates rising business confidence, which is corroborated by reduced vacancy levels in the commercial office space. A 100 basis points equal one percentage point.
Simultaneously, leisure travel also picked up, with foreign tourist arrivals from January to December 2018 rising 5.2% from the year-ago period, with double-digit growth during the holiday season.
However, a more convincing factor depicting hotel industry fortunes are average room rates (ARRs). After several years of stickiness, rates are firmly northbound (see chart above). All-India ARRs collated by ICICI Securities Ltd in its report show a 3% year-on-year increase in the December 2018 quarter, for both business and leisure segments.
This is good news. Higher ARRs improve revenue growth. The December quarter revenue of Indian Hotels rose 33% quarter-on-quarter and 11%year-on-year. EIH revenue increased a handsome 22% year-on-year. Both hotel companies’ Ebitda (earnings before interest, tax, depreciation and amortization) margins also rose, by nearly 200-300 basis points year-on-year.
The report by ICICI Securities says structural tailwinds, especially with favourable demand-supply factors, augur well for the sector. This follows the sharp cutback in capex and working capital costs that ate into profits in the last few years.
The asset-light strategy and consequent deleveraged balance sheets ensure that revenue expansion translates to higher profits.
That said, the sector offers limited options for investors. After all, only a handful of firms are listed. TAJGVK Hotels and Resorts Ltd and Royal Orchid Hotels Ltd are relatively smaller in the listed space. Though the entry barrier is steep, the sector’s earnings volatility because of steep capex costs and cyclicality are underlying risks for a retail investor.
The fate of Hotel Leelaventure Ltd, which got caught in a debt trap during last decade’s slowdown, is hanging in the balance. The company has been referred to the National Company Law Tribunal (NCLT). The stock has tanked and left investors singed.
The trick is to stay with large names that have deep pockets and a brand equity that can pull through rough times.