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OPINION

Check in for a profitable stay

Check in for a profitable stay
January 6, 2016
Check in for a profitable stay

The company operates five high end hotels on the island - Colony Club, Tamarind, The House, Crystal Cove, and Turtle Beach - all of which are situated along the prestigious west and south coastlines. These hotels have a total of 483 rooms, or 25 per cent of the island’s 'high end' hotel stock, so the business is very well placed to benefit from increased tourist traffic. And that’s exactly what Barbados is experiencing right now with tourist arrivals in the 12 months to end October 2015 up almost 15 per cent, driven mainly by arrivals from the UK and the United States, Elegant Hotel’s two major target markets for its hotel guests. This growth is partly down to the ongoing economic recovery in those two countries, but also reflects demand shifting from some competing winter-sun destinations in North Africa and the Middle East due to ongoing instability in those regions.

Importantly, the uptick in customer demand is being well supported by increased airlift: British Airways has increased its winter flights by 20 per cent from the UK; extra capacity from the United States added over 33,000 additional seats last year, including Delta Airlines' new routes from New York and Atlanta; JetBlue has just introduced a new route from Boston as well as an enhanced business class service from New York; and Thomas Cook has opened a new route from Glasgow operating from November to January, providing direct flights from the north of the UK.

It’s worth noting that the increased consumer demand can drive Elegant Hotels’ profits even if there is little change in occupancy rates. That’s because higher levels of demand enable the company to increase headline prices or reduce discounts which in turn drives yields. Also, as the largest hotel operator on Barbados, Elegant's ability to manage yield is assisted by stronger negotiating positions with tour operators than its competitors.

The results of this were clearly in evidence in the company’s maiden set of results for the 12 months to end September 2015. Revenue per available room was up almost 5 per cent to $255 (£173) per night buoyed by a 5.7 per cent increase in the average daily room rate to $373. And because increases in daily room rates incur little in the way of incremental cost, then conversion to profit is stronger than that of revenue growth from higher occupancy. This explains why a 4 per cent rise in total revenue to $60.1m in the 12 month period translated into a near 16 per cent rise in adjusted operating profits to $19.2m. I have adjusted these figures for the IPO costs. EPS rose from 12.7 cents to 14.7 cents, or 10p a share at current exchange rates.

Funded to make selective bolt-on deals

Moreover, with underlying cash conversion better than I had anticipated, the company ended the period with net debt of $40.8m, implying a very comfortable loan-to-value ratio of 17 per cent on the $235m value of its hotels. This loan gearing ratio coupled with strong and predictable cashflow generation helps explain why the board are targeting areas such as St Lucia and Antigua for bolt-on acquisitions. It makes commercial sense to do so because UK guests represent a high percentage of the visitors to those locations and Elegant Hotels has very strong relationship with the key carriers, British Airways and Virgin Atlantic. Chief executive Sunil Chatrani would be disappointed if his company doesn’t complete at least one hotel acquisition in 2016 from a targeted pipeline of opportunities.

Importantly, shareholders who invested at the time of the May flotation at the 100p a share placing price are being rewarded too. The board declared dividends of 3.5p a share for the four month trading period and analyst Mike Allen at house broker Zeus Capital predicts a 12-month payout of 7p for the current financial year to end September 2016. This is based on Elegant Hotels raising revenues by a further 4 per cent to $62.7m to deliver operating profit of $19.9m and a pre-tax profit of $18.3m, up from $16.1m in the year just ended. On this basis, adjusted EPS rises to just shy of 16 cents, or 10.8p at current exchange rates. This means that the shares are being rated on a modest 11 times current year earnings estimates, offer a prospective dividend yield of 5.9 per cent and are rated on a near 25 per cent discount to book value of 157p a share once you mark the hotels to market value. Please note that the company’s reported net asset value of $105m uses a historic valuation of $135m for the five hotels whereas as independent commercial valuers CBRE have valued these assets at $235m.

The bottom line is that on any valuation measure Elegant Hotels is being rated on a significant discount to peers, a point I made when I initiated coverage in early summer when the share price was 105p (‘Checking into an elegant investment’, 15 June 2015) and reiterated the point when I last updated the investment case at 108p (‘An elegant investment’, 20 October 2015). Indeed, on an enterprise value to cash profit basis, the company is being valued on a discount of 30 per cent to a London listed peer group consisting of Whitbread (WTB: 4,300p), Intercontinental Hotels (IHG: 2,602p) and Millennium & Copthorne (MLC: 462p). The discount to peers is nearer 50 per cent on a straight PE ratio.

Needless to say, on a bid-offer spread of 116p to 118p, valuing the equity currently at £105m, I continue to rate Elegant Hotels’ shares a decent buy and have a conservative fair valuation of between 130p to 135p. Buy.

Please note that I have published four columns today, all of which are available on my home page.

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