InterContinental Hotels Group believes it is on course to hit its target of adding 50,000 to 60,000 net new rooms a year by 2008, it said yesterday. This is despite adding just 3,000 rooms in the first half of this year.
With the divestment of assets now essentially complete, this issue of delivering system growth will determine whether InterContinental succeeds or fails as a hotel company.
The sale of assets – a whopping £3bn over the last three years – has seen a marked downturn in revenues and operating profits. These can only be replaced by expanding the system rapidly and adding more franchise and management fee income.
Turnover for the six months to June 30 was down 28% to £499m and EBITDA shrunk 17% to £160m. Of the assets sold, 90% have retained either a franchise or a management agreement giving IHG a long-term EBIT stream of £30m a year. The £3bn of assets have been turned into an ongoing income that is 1% of the size.
The transformation at IHG, which now retains a property portfolio worth £1bn, means that 88% of its earnings are now from fee income. The geographical bias of the group remains very much in the US with 70% of earnings from that country, compared to just 19% from EMEA and 11% from Asia Pacific.
The £400m of proceeds from the latest sale – the seven InterContinentals in Europe – is not being handed back immediately to shareholders, unlike the receipts from past disposals.
IHG said it would make clear the size of any return by next February. It is keeping its powder dry in case it wants to make selective acquisitions. With the InterContinental brand, for example, locations including Los Angeles, Hawaii, Moscow and Milan were identified as big holes in the network that need to be plugged.
CEO Andy Cosslett said there were opportunities in the next 12 months or so that may present solutions to some of these network gaps but he said he could not rule out using the balance sheet where necessary.
With debt levels below target – net debt should not exceed between 2.5 and 3.0 times EBITDA – there remains plenty of firepower for selective acquisitions. But overwhelmingly, system growth is going to come via franchise agreements or management contracts.
Cosslett said that the targets IHG has set itself mean adding a new hotel every day to its system to hit the required number by the deadline at the end of 2008.
He argued that the cultural change that has occurred within the company means this is now possible. The number of development professionals employed by IHG has been increased by 50% in Europe and Asia Pacific and by 25% in the US.
And he pointed out the advantages of the IHG system that now delivers around two-thirds of reservations to individual hotels on average. The scale of the system has enabled the Holiday Inn brand to sponsor both major league baseball and NASCAR in the US, which Cosslett said was beyond the reach of most other rivals.
The impact of the system strength has enabled IHG to increase royalty rates. With Express, the royalty rate has been pushed up to 6% from 5% over the past year. And IHG has been able to hold its own in an increasingly competitive franchise and management contract environment without discounting its fees.
The terror alert in the UK had not impacted seriously on performance, said Cosslett. Travellers are desensitised to these events and they are prepared to put up with the inconvenience rather than change their travel plans, he added.
The bright prospects for the hotel industry were not likely to be derailed by a sharp increase in supply, either. While he conceded that supply would creep up he argued that there were enough suppressors to keep it under control. He pointed to the New York City market as an example. Here, supply has fallen as rooms were taken out for conversion into residential at a faster rate than new hotels were coming on stream.
The big challenge for Cosslett going forward is convincing investors that there is strong growth story at IHG. Its share price took a slight hit following Tuesday’s announcement, with the decision not to return more funds to shareholders widely seen as the main cause.
For the past few years, shareholders have been intoxicated by the smell of the instant returns obtainable by selling assets. Ahead lies the much harder job of persuading them to wait for the longer term returns that will come as the fee income grows.