To recap, I recommended buying the shares at 83p ('Check in for a profitable booking', 14 Dec 2015), advised running profits at 95p ahead of a trading update ('A profitable booking', 14 Apr 2016), and again the following month at 100p ahead of the company’s interim results (‘easyHotel ramps up opening plans’, 25 May 2016). I wasn’t disappointed and with the shares drifting back on profit taking I decided to upgrade my advice to buy again at 80p, targeting a return to 100p (‘Time to check in again’, 21 Jun 2016). The share price is unchanged since then even though the company continues to ramp up its hotel opening programme, both for its owned estate and its fast growing franchise network.
Value accretive hotel expansion programme
For instance, having acquired a six storey freehold building in Liverpool for £1.3m in April, with the intention of converting the upper floors into a 79-room easyHotel, the company has sold off the ground floor restaurant on a 125-year lease for £600,000, the proceeds of which will be reinvested in future hotel projects. The building is well located just three minutes' walk from the Liverpool One shopping area and the Cavern Club tourist attraction, and 10 minutes' walk from Liverpool's main railway station. The hotel is expected to open in January next year at a total cost of £2.4m, or just over £30,000 per room.
A few months later in March next year, easyHotel’s new super budget hotel in Birmingham will open too. The property is situated in the heart of the city centre, 120 metres from the new entrance to Birmingham New Street Station and 500 metres from the Bullring shopping centre. easyHotel completed the acquisition of a 125-year lease a few weeks ago and plans to convert the building into an 84-room easyHotel. Total cost of the purchase and conversion of the building should be around £4.5m.
The hotel opening programme doesn’t end there either because having acquired a building in Manchester earlier this year, situated in the city's Northern Quarter, and ten minutes' walk from both Manchester Piccadilly and Victoria stations, easyHotel is in the process of converting it into a 114-bedroom hotel that is scheduled to open next summer at a total cost of about £6m. And a fortnight ago the company was granted planning permission for a 94-room easyHotel in Ipswich. The Grade II listed property is prominently situated in Northgate Street, adjacent to the junction with Tavern Street, the town's principal retail area. The acquisition will complete shortly and the hotel is expected to open in September 2017 at a total cost of around £4.5m.
This means that the company is investing £17.4m to develop four hotels in the UK, of which it has invested £4.59m in the six months to end March 2016, in order to double its hotel stock to 760 rooms by this time next year. Currently, easyHotel has an estate of 390 rooms across three wholly owned hotels located in Croydon, Glasgow and in Old Street, on the fringe of the financial centre in London. Funding from this point will primarily come from drawing down £17.6m of cash on its balance sheet, and from further bank lending. easyHotel had a bank loan of £7.2m outstanding at the end of March.
The company’s fifth opening, a 204-room owned hotel in Barcelona, the 12th most visited city in the world, is by far the largest and is costing €15m (£12.9m). The scheduled opening is slated for early 2018. The site is located on Gran Via, the main avenue of L'Hospitalet de Llobregat, with easy access to Barcelona City Centre and Barcelona Airport. It has good transport links, with a train and Metro station adjacent to the proposed hotel, and is within walking distance of the Gran Via shopping centre, which includes 180 shops, 24 cafes/restaurants and a 15-screen cinema.
Old Street planning issue
Admittedly, one of the reasons easyHotel’s share price has pulled back from this year’s 100p highs is down to the fact that there is an outstanding planning issue at its owned hotel in Old Street, London. That's because having put in a retrospective planning application for almost half of the 162 rooms easyHotel redeveloped at the Old Street site, Islington Borough Council subsequently refused the application in mid-June. easyHotel is appealing the decision and this process is likely to be resolved one way or the other in the coming months.
However, even if the company loses the appeal then it’s hardly a big deal because analysts believe the site is worth at least £20m to a property developer, and perhaps as much as £25m. It's in the accounts at only £14m and was last valued at £18.6m in June 2014. So, if the company sells the site it will free up significant cash to recycle into the hotel development programme. It will also highlight the hidden value in the company’s balance sheet.
Alternatively, if Islington Borough Council awards retrospective planning consent then it will remove the uncertainty overhanging easyHotel’s share price and enable the company to release cash from the property through additional debt facilities which can be recycled into the aforementioned opening programme. Either way, I feel that there is potential catalyst to spark the share price into action here.
Franchise development programme
It’s also worth flagging up that easyHotel’s franchise hotel operation is scaling up just as quickly. For instance, the company announced this morning that its Benelux franchisee is developing another easyHotel in the Amsterdam region, a 96 rooms easyHotel in the heart of Zaandam, next door to the railway station and only 11 minutes from Amsterdam Central Station and Schiphol Amsterdam Airport. Construction is expected to start shortly and the hotel is anticipated to open in early 2017.
This will be the third easyHotel in the Amsterdam region. The second franchise hotel is due to open by the end of 2016 following conversion of a building on Arena Boulevard in Amsterdam into a 131-room easyHotel. And in today’s announcement, the company also confirmed that its Benelux franchisee is due to open its 107-room Brussels easyHotel in October, three months ahead of schedule. The property is ideally located within five minutes walk of the central Grand Place and will be the first easyHotel in Belgium.
Moreover, a few weeks ago easyHotel announced that a new franchise hotel owned by Luxembourg-based Nece S.à.r.l. is under development in Bernkastel-Kues, one of Germany's most popular tourist destinations, and a state-recognized health resort set amongst historical vineyards. The town accommodates around 2.7m guest-nights each year and is located only 20 minutes from Frankfurt Hahn Airport. The building being developed was previously used as a textiles factory and will be converted into a 100-room hotel and has a scheduled opening in late 2017. Around the same time a new 101-room franchise hotel is expected to open in Lisbon, Portugal. The hotel is being developed by Sedprop Investments, and is located in the heart of the city.
Other agreements in place include one 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 development programme is targeting the opening of 600 rooms by 2017 with easyHotel entering into a franchise agreement for each hotel. MAN Investments has secured land or properties which will accommodate the 2017 openings and its first hotel is a 300-room easyHotel built in the Bur Dubai area of Dubai, widely recognised as being the trading hub of Dubai and the UAE. Prospects look promising here given the Dubai Ministry of Tourism is targeting growth of more than 30 per cent in inbound tourism by 2021, which if achieved will see 20m tourists visiting the region annually.
Admittedly, the timing of a recent development agreement to expand the brand into Turkey is hardly ideal given the geopolitical backdrop in the country. However, the partner is a privately owned company that owns over 4m sq metres of land for development and has been in business for 45 years. The first 50-room hotel is expected to open in Istanbul by the end of 2017, a further 150 rooms are slated to come on stream by end 2018, and a further 100 rooms by end 2019.
In total this brings the total number of rooms under development by easyHotel’s franchisees to 1,234, representing a significant increase on the current 1,490 room stock at its 18 franchise hotels located mainly across Europe.
Undervalued
The key point here is that the accelerated development programme is simply not in the price. That’s because at the end of March, easyHotel's reported net asset value of £32.5m included net funds of £10.4m and property assets with a book value of £25.3m. But its Glasgow, Croydon and Old Street hotels are only in the books for £21m, a conservative valuation given that the London site could be worth £25m alone. There is also hidden value in the Croydon site because easyHotel was granted a lease of the property for a term of 999 years at a nominal initial rent of £25 per annum upon payment of a premium of £1.6m. It then spent £1.9m on developing the 103-room hotel that is located next to East Croydon railway station. The 125-room hotel in Glasgow site is in the books for £2.75m.
By my reckoning, if you mark the three owned hotels to market value I estimate the company's adjusted net asset value could be nearer £43m, or 69p a share, implying little in the way of value attributed to the development pipeline. That seems anomalous to me because the board now has a sizeable and growing contracted schedule of openings in place, so can expect cash profits to ramp up sharply in the coming years. To put this into perspective, analysts at Liberum Capital expect easyHotel’s cash profits to more than double from £1.5m in the current financial year to £3.5m in the 12 months to September 2018 based on revenues rising from £6m to £11.5m. And as the new hotel’s mature, analysts at Liberum expect cash profit margins to rise to around 65 per cent, implying significant upside on profits too.
So, with a planning decision on the Old Street site expected before the end of the year, the profitable network of franchised and owned hotels being significantly scaled up, and the shares priced well below analysts’ fair value estimates ranging from 120p to 130p, I feel there is clear value on offer here.
On a bid-offer spread of 79p to 83p, I continue to rate easyHotel’s shares a buy ahead of the pre-close trading update in early October. Buy.
