Trading in the first half to end-February 2016 was better than analysts had expected, driven mainly by an eye-catching 8 per cent like-for-like revenue hike at the company's three UK-owned hotels which have a total of 390 rooms and are located in Croydon, Glasgow and on the fringe of the financial centre in London. Revenue per available room rose almost 10 per cent to £25.40 on a weighted-average basis, highlighting the early benefits of using a dynamic pricing model and the release of a proportion of the hotel stock to online travel agencies. Pre-tax profit (before central overheads) from these owned hotels rose a fifth to £810,000.
Pre-tax profits pre-central overheads at the 18 franchised hotels dipped slightly to £320,000, but this reflected investment in marketing and pre-opening costs. More relevant is the bullish trading update from chief executive Guy Parsons, the former chief executive of leading budget hotel chain Travelodge, who notes that the "the momentum has continued into the beginning of the second half, traditionally the busiest trading months of the year for hoteliers, and full-year trading is on track to meet expectations".
Mr Parsons adds that the company's committed, owned and franchise pipeline is expected "to add more than 1,000 rooms to the network over the next two years". easyHotel currently has 390 owned hotel rooms and a further 1,490 rooms at franchise hotels. In the first half, the company invested £4.6m in five owned development projects of which four hotels (Liverpool, Manchester, Birmingham and Ipswich) will add 374 bedrooms and double-owned hotel capacity by June next year. The fifth opening, a 204-room hotel in Barcelona, the 12th most visited city in the world, is scheduled for early 2018. The site is located on Gran Via, the main avenue of L'Hospitalet de Llobregat, with easy access to the city centre and Barcelona Airport and within walking distance of the Fira Barcelona Gran Via convention centre ('easyHotel ramps up expansion', 14 January 2016).
Mr Parsons also pointed out this morning that "with more opportunities, both owned and franchise, available than had been expected the board is considering its funding options to take full advantage of this". In other words, the company is now looking to scale up its opening schedule to leverage its strong brand and increase easyHotel's presence in the growing branded super budget hotel segment. This is a positive development and one that I feel is still not reflected in the share price.
Shares undervalued
That's because at the end of February 2016 the company had equity shareholders' funds of £32.5m, including net funds of £10.4m and property of £25.3m on its balance sheet. The Glasgow, Croydon and Old Street hotel on the edge of the financial district in London have a combined book value of £21m, a conservative valuation given that analysts believe the redeveloped Old Street hotel is now worth between £20m and £25m alone. It's in the accounts at £14m and was last valued at £18.6m in June 2014. Or put it another way, mark property to market value and the company's adjusted net asset value could be nearer £43m, or 69p a share.
This is substantial asset backing and means that the company's market capitalisation of £62.5m attributes little value to the potentially lucrative partnership agreement that easyHotel entered with MAN Investments LLC, a UAE-owned commercial and investment group, to develop easyHotels in the Middle East with a focus on new developments in the UAE and Oman. The new easyHotels are expected to comprise new purpose-built assets and conversions of existing hotel or office buildings. Initially, the development programme will target an opening of 600 rooms in 2017, with easyHotel entering into a franchise agreement for each hotel. MAN Investments has already secured land or properties which will accommodate those openings and its first hotel is a 300-room easyHotel built in the Bur Dubai area of Dubai, widely recognised as the trading hub of Dubai and the UAE.
The current valuation also fails to reflect the value creation from the five owned hotels which are being developed. These hotels are in the accounts at cost. It also fails to reflect the value creation from the profitable franchise network. For instance, the company's Benelux franchisee has purchased a property on Arena Boulevard in Amsterdam, one of the top five most visited cities in Europe, which it plans to convert into a 131-room easyHotel. After factoring in the development of this hotel and the 107-room easyHotel in Brussels, the company's Benelux franchisee is set to add 238 rooms to the network by the end of this year.
The bottom line is that a rating of 1.4 times underlying book value is hardly a punchy rating for a company that's already profitable, has a strong pipeline of projects to create significant value for shareholders over the next few years, and where management is looking to ramp up the opening programme. In the circumstances, I am upgrading my cash flow-derived target price to 115p a share, below Investec's raised target price of 130p, and rate the shares a buy on a bid-offer spread of 99p to 100p. Please note that I first recommended buying the shares at 85p ('Check in for a profitable booking', 14 December 2015), and last recommended running profits at 95p ahead of today's trading update ('A profitable booking', 14 April 2016). Run profits.
