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Hotels: Destination India...

Nov 15, 2006

Hotel majors have announced their September quarter results amidst much excitement and expectations. Both, the expectations and excitement was high due to the prospects of India as an exciting tourist and business destination, justified in part by the robust performance in the last two years. The growth momentum in tourist inflow and the high room rates continue unabated. In terms of operating metrics, topline growth was fairly robust, on a year-on-year basis. Margins saw an impressive expansion as well. Operating leverage has played its part in perking up margins during 2QFY07. Due to considerably higher other income this quarter, and lower interest charges, the bottomline growth outperformed the topline and operating profits, by a wide margin.

Rs m 2QFY06 2QFY07 Change
Net sales 5,789 7,164 23.8%
Expenditure 4,240 5,083 19.9%
Operating profit (EBDITA) 1,549 2,081 34.3%
Operating profit margin (%) 26.8% 29.0%
Other income 222 387 74.3%
Interest (net) 372 327 -12.1%
Depreciation 431 466 8.1%
Profit before tax 968 1,675 73.0%
Extraordinary item (9) 144  
Tax 251 504 100.8%
Profit after tax/(loss) 708 1,315 85.7%
Net profit margin (%) 12.2% 18.4%
(the companies included are Indian Hotels, EIH, Oriental Hotels, Taj GVK, Leelaventure, Asian Hotels)

What has driven the performance in 2QFY07?

Incredible India: The foreign visitor arrivals till August 2006 reached 2.8 m and are expected to touch a record 4.4 m by the end of the year. The strong tourist inflow is attributable to some fundamental reasons such as a strong business and investment confidence in India, strong GDP performance, opening of sectors of the economy to private and foreign investment. Domestic travel, both business and leisure have benefited from a strong corporate performance in India, and the overall sense of optimism with regard to the economy. Furthermore, India's growing recognition as an exciting place to visit has helped boost its image as a leisure destination.

The topline on a consolidated basis grew 23.8% YoY led by higher room rates and occupancy rate. For the third year in a row, most markets across categories witnessed an increase both in terms of occupancy and average rates. Though, the occupancy growth was moderate than in the past few quarters, average rates, on the other hand, saw exceptionally strong increase over the previous year. This was mainly due to the demand-supply imbalance in certain cities like Delhi, Hyderabad and Goa, which enabled hotels in these cities to charge higher tariffs. Also, the seasonality impact was rather muted during the quarter. This can be brought out from the fact that even during the second quarter, which is a lean season, the hotel chains witnessed 65% to 70% occupancy rates. Going forward, in view of the continued shortage in room supply across various cities, we believe prices will continue to go up, for perhaps another two years. The planned addition to supply across most cities will start a rate rationalisation process and rates are likely to flatten by late 2008. Till then, the hotel majors will continue to enjoy higher topline growth.

Demand Supply Gap Demand Supply
Hyderabad 8,000 5,400
Goa 6,500 2,800
Chennai 7,500 5,000
Bangalore 20,000 6,800
Delhi 20,000 6,000

Leveraging benefits: Hospitality being a fixed asset intensive business, operating leverage has played its part in raising up margins for the hotel majors during 2QFY07. During the quarter, all the major cost heads (raw materials, staff and others) have witnessed declines as percent of sales. The operating profits were up 34% YoY in 2QFY07 as compared to last year, while the margins stood at 29% (26.8% in 2QFY06). Hotel Leela led the way with an impressive 49.9% operating margins, while Indian Hotels' margins increased by 270 basis points.

It's party time: There has been a substantial increase in bottomline during the quarter, primarily on account of higher operating profits and higher other income. Also, a decrease in the interest cost further aided the bottomline growth which grew by 85.7% YoY. However, if one has to exclude the extraordinary items, the bottomline grew by 65.8% YoY, which is by no means unimpressive.

What to expect?
The outlook for the tourism industry is encouraging, at least for the next two to three years. The increase in government investment, stable political and economic climate worldwide and strong corporate performance, will continue to boost tourist flow into the country. The domestic travel is also likely to witness strong growth and will be the real driving force for this industry over the coming years. The acute shortage of rooms will prevail in the larger markets, at least for the next three years, which will result in demand outstripping supply, thereby raising the room rates over the next few quarters.

As far as valuations are concerned, we would advise investors to screen each company and then arrive at a decision considering some key sector specific fundamentals. Diversification in terms of location as well as business mix, expansion plans and financial leverage are some of the important parameters that we would look at.

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