Summary
- Management mentioned demand is showing no signs of letting up at the moment.
- Despite positive post-COVID leisure trends, I have doubts about the industry's future and consumer confidence, which may lead to increased competition for RevPAR.
- I find it difficult to justify the current multiples, especially after the strong rally.
Summary
Despite very encouraging post-COVID leisure trends, I am maintaining a more pessimistic outlook on InterContinental Hotels Group ( IHG ) as of today's outlook. Because of doubts about RevPAR's future and consumer worries, I advise holding off on investments in IHG stock for the time being. While I believe IHG will continue to reap benefits from China's reopening and see fee margin improvements, I find it difficult to justify the current multiples (EV/NTM EBTIDA has already risen from a low of 10x to the 10Y average of 13x) given the company's prospects. No imminently imminent strong catalyst that would drive valuation even higher is visible to me at this time. When it comes to the reopening, for one thing, the good news is largely over. Second, as worries about the long-term viability of leisure and corporate pricing rise, competition for RevPAR is only going to get stronger. Finally, both the macro and consumer environments are uncertain today.
FY22 results
The $828 million operating profit IHG reported for FY22 was in line with consensus. Overall system RevPAR growth increased from 2019 on a quarterly basis (4Q22 vs FY19) and annual basis (FY22 vs FY19). All months of the quarter saw RevPAR growth over the prior year, with December seeing the largest increase (7.7%) when compared to the prior year. Both the Americas and EMEAA contributed to the sequential RevPAR increase, but Greater China was hampered by COVID regulations. In the United States, leisure rates increased by 14%, business rates by 7%, and group rates by 7%, contributing to an overall 13% increase in ADR for the quarter compared to 2019. I also found it encouraging that management mentioned how strong demand and pricing have carried over into the new year with no letup in sight.
In contrast, adj. net system growth was 4.3% y/y in FY22 (2.9% y/y if we exclude Iberostar). Gross system growth was up 5.6%, and there were 26.5k gross opening of rooms in 4Q (if we exclude Iberostar, 4Q gross openings were 14.1k). Also in the quarter, IHG signed contracts for 36,400 rooms (if we excluding Iberostar, 17.9k were signed).
Positive
I think the most important thing I learned is that neither demand nor pricing power appear to be declining. A more important point is that I anticipate any macro headwinds to be offset by the recovery in international, corporate, and group travel. In addition, domestic trips in China have returned to 90% of 2019 levels over the CNY, which is very encouraging data considering the scale of the reopening. If these two factors were to come together, I believe investors' interest in the long-standing story of the many structural tailwinds driving global travel would be revived. This story's return, coupled with IHG's appealing asset-light business model, should entice back shareholders who sold off their shares in the past few years. The allocation of IHG's capital was a bright spot this quarter as well, with another $750 million buyback occurring this year.
Negatives
On the flip side, there were some negatives I was able to glean as well. First, I was surprised by how muted the commentary was regarding projections for net unit growth. When it comes to NUG, management is anticipating a range of 4-5% but is shooting for the low end this year. Secondly, the 18k signings in Q4 were also below expectations; I believe the slow start-up of construction in China is to blame. Thirdly, the relaunch of the loyalty program and the increased demand for reward nights contributed to a $105 million loss in the system fund, but the returns on these investments were less than ideal. Fourth, this is more of red flag, a higher RevPAR couldn't prevent a 5% decline in H2 revenues compared to 2H19. Finally, despite weak GBP and cost savings, overhead costs increased by 7% in H2 compared to 1H19. This indicates that there are still significant inefficiencies in the cost structure.
Capital allocation
In addition to the final DPS of $0.945, management has announced a $750 million buyback to be completed in 2023. Due to factors such as higher cash taxes, a rise in EBITDA was not enough to overcome the headwinds that led to a flat year-over-year change in adjusted FCF of $565 million in FY22. Even though management has mentioned the possibility of additional shareholder returns in the past, I believe the size of the buyback will be well received by shareholders.
Conclusion
In conclusion, while there were some positive signs in IHG's FY22 results, I maintain a cautious outlook on the hotel industry and IHG's prospects. Despite encouraging trends in post-COVID leisure travel, I still have doubts about RevPAR's future and consumer confidence, which may lead to increased competition for RevPAR. While IHG will continue to benefit from China's reopening and see fee margin improvements, the current multiples are difficult to justify given the company's prospects. Moreover, the macro and consumer environments are still uncertain, which further clouds the future. Overall, I advise holding off on IHG investments for the time being and monitoring the situation for any changes in the industry's outlook.
For further details see:
InterContinental Hotels: Hold Off Investment Until Outlook Is Clearer