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EIH Ltd: 'Whacky' operations - Outside View

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EIH Ltd: 'Whacky' operations
Aug 24, 2010

Industry logjam

The hospitality industry (in popular imagination 5 star) has several crossroads to traverse. On the one hand it is perceived as an elitist institution, as a purveyor of services, to the vast bulk of the populace, to whom its services are out of reach. On the other hand it also represents the economic progress of a nation. (No surprise then that its 2 Indian marquee representatives were the target of a terrorist attack in Mumbai). The industry also represents razzmatazz and aspirational value too. To add to its many faces, the Finance Ministry under Mr. Chidambaram decided that the industry represents a 'deemed perk' to businesses which utilize its services. The Government now levies a tax on businesses which utilize the services of the hospitality sector. But even given the many bulwarks, there is no dearth of entrepreneurs in this industry, as the glamour quotient outweighs the reality.

Acutely capital intensive

There is probably no other industry in the services sector which is as capital intensive, and, with a gestation time lag, as the hospitality industry. There is a severe mismatch between its fixed asset block and the revenues that it derives from these assets. Given the service nature of its business, if its human capital were also to be reduced to numbers, the gross capital to turnover ratio would be completely out of proportion. The assets take long enough to made revenue worthy, and the revenues take time to fructify. The capitalization of this industry is such that it is forced to take on large sums of debt, and the interest and depreciation charges alone are a millstone around its neck. The cost of land is asphyxiating enough. This is a contagion that even the established honchos in the hospitality industry have to endure. The only other industry which suffers from such a mismatch, is probably the equally capital intensive medical services fraternity.

EIH's operations

Take the example of EIH Ltd. On an average gross fixed asset base of Rs 19.2 bn in end FY10 (average of the gross block of FY09 and FY10, and excluding the revaluation reserves), the company was able to rustle up a gross turnover of only Rs 8.8 bn (excluding other income, but including sales related other income). The revenue that it derived was less than half of the gross fixed assets. Take the working results of any of the last 10 years of the company, and one will come with up similar answers. On a very rough working, (as the full details of the individual items are not available), in the FY02, the company boasted a gross fixed asset block of Rs 13.8 bn (average gross block of 2 years, and including capital work in progress ), the company recorded a gross turnover of Rs 4.4 bn. Similarly in FY07 the situation was no different. On a fixed asset base of Rs 18 bn it clocked a gross turnover of Rs 10 bn. And if the management and service contract fees that the business generates for managing hotels on contract basis is to be excluded, then the mismatch becomes even more glaring.

Hotel companies earn their revenues from 3 distinct streams. The way the total revenue is generated, there does appear to be some connect between the three. At the top of the heap is income from 'Room Rentals', followed by 'Food and Beverage', and the last in line is 'Other Services'. In the case of EIH, room rentals bring in 40-45 % of the total, with food and beverages close behind, with around 35-39%, and the balance is generated by other services.

Adding to the enigma

The doings and the many other doings of hotel managements add to the industry's enigma. And EIH is no exception here. The industry runs many brands and some of the lesser brands are run under the trusteeship of many subsidiaries and affiliates. EIH for example manages all of 8 hotels under its wing. It owns 4 hotels under the Oberoi brand and a further 4 hotels under the Trident brand. Through its subsidiaries and associate companies, it manages a further 14 hotels, including 4 offshore hotels. Here there are 8 hotels under the Oberoi brand and 6 hotels under the Trident brand. It also owns and operates the Maidens Hotel in Delhi. (Why it chooses to keep this hotel separate is not known?) It also operates the Trident in Gurgaon. What exactly are the fees that it earns from management contracts of these hotels is not known, as it is not indicated separately. This income may well be grouped under 'other services' though. Also fairly unclear is, which subsidiaries and which associates manage, which of the 14 hotels. Barring that is, EIH International Limited, its wholly owned dollar denominated subsidiary, which operates the 4 offshore hotels.

Many investment avenues

The situation is actually a lot more complicated than it appears. EIH has a trade investment in a group company called EIH Associated Hotels, which in all possibility is some sort of a holding company of the group. EIH has also signed a letter of intent to acquire the 46% stake in its international joint venture, EIH Holdings, situated in the British Virgin Islands from Amex Investments, Hongkong. EIH Holdings in turn is presently either an equity affiliate or subsidiary of EIH International Limited. The latter in turn presently has equity investments in the hotels that operate in Mauritius, Egypt and the 2 hotels in Indonesia. The directors' report adds that these assets will be completely held by EIH International once the share transaction is completed. In other words the 4 hotels will become wholly owned subsidiaries of EIH International. Besides the existing offshore hotels, it is also signing long term management contacts for the 'Oberoi' hotels under construction in Dubai, Morocco, Greece, and Mauritius. In all possibility this will boost the income generated by EIH International.

Subsidiaries amount to naught

For the time being EIH International is a big zero. As a matter of fact the entire investment portfolio of EIH is close to the magic zero. The book value of its investments in its subsidiaries and affiliates at year end was valued at Rs 3.8 bn. The dividend income totaled a princely Rs 24 m! Its biggest single individual investment is in EIH International at Rs 1.9 bn. The latter in turn is a total non-entity. On a capital base of Rs 2 bn (against Rs 1.9 bn in the books of the parent company), an asset base of Rs 2.1 bn, and equity investments valued of Rs 1.6 bn, it could record revenues of only Rs 15 m and a pre-tax profit of Rs 10 m. Is this some sort of a joke please? With 4 hotels under its hat, what type of income generation is this in the first place? Possibly the situation may change for the better once the share deal with the Hongkong company is through.

EIH also has six other subsidiaries, 3 of which are in the mothball category, including Kerala Hotels and Resorts. The only subsidiary with any spunk is Mashobra Resorts which makes do with a pitiful Rs 21 m dividend to the parent. It also has investments in Golden Jubilee Hotels and L&T Bangalore Airport Hotels, and a miniscule trade investment in Royale Manor Hotels. This is effect rounds up the picture

The future

All of which is difficult to digest, but that is how EIH is structured, and that is what you get. The only redeeming feature of the company is that it is at least looking ahead. New hotels in Mumbai, Gurgaon, Dehradun, Hyderabad and Dubai have either newly opened or will take in its first guest by 2012. But, given the manner in which the company is run, expect nothing dramatic to suddenly appear out of its balance sheet. Disclosure: Please note that I am a shareholder of this company

This column "Cool Hand Luke" is written by Luke Verghese. Luke has been a business journalist, financial analyst and knowledge management head with a professional experience of more than 20 years. An avid watcher of the stock market, he has written extensively on stock market trends. His articles have featured in Business Standard, Financial Express and Fortune India amongst others. He has also been the Deputy Editor, Fortune India and the Financial Editor of The Business and Political Observer.

The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.
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