Little comfort in hotel stocks as recovery pushed to FY23

Expectations of a slow recovery, high fixed costs, and debt worries are putting off investors

Hotels have been one of the worstaffected sectors amid the Covid-19 pandemic and the same is reflected in the stock prices. Even as the market recovered in April, the BS Hotel index, which measures the performance of top hotel stocks, lagged by a significant margin. While the Sensex gained 21 per cent since March 23, the BS Hotel index fell 7 per cent over the same period.

The reason for this underperformance is the apprehension that recovery could stretch to two years, one of the longest durations across sectors. The delay is on account of a gradual recovery from zero occupancies currently, the high fixed-cost nature of the business, and the rise in leverage, which was showing signs of easing over the last couple of years. Nihal Mahesh Jham of Edelweiss Securities believes the slowdown is much deeper and the impact may be much worse than the sector has seen before, with occupancies in single digits and the probability FY21 revenue per available room (REVPAR) contracting sharply. HVS Research expects revenues of the sector to decline by ~90,000 crore in 2020, down 57 per cent compared to the previous year, and REVPARS to fall by 58 per cent.

The major hurdle for hotels is high fixed costs, which are pegged at 60-70 per cent. Employees are a key component of the same, accounting for half the fixed costs. Companies are already curtailing a large part of their costs — be it by terminating contractual labourers, cutting salaries for senior management, and requesting a waiver of annual maintenance costs and other fixed costs. With quite a bit of the costs staying constant, losses at the operating level in the absence of revenues after the lockdown extension are expected to increase, pushing up debt and leverage ratios. If hotels open up in June, analysts expect revenue per room for the April-june quarter to fall by as much as 75 per cent. Once the lockdown is withdrawn, availability of credit, given the weak operating metrics of the hotel sector, will also be important.

Among the key segments, which will get affected in addition to leisure, are meetings, incentives, conferences, and exhibitions.

Sumant Kumar and Darshit Shah of Motilal Oswal Financial Services indicate that large conferences and exhibitions generate demand for hotel rooms, and will be impacted as large gatherings are likely to be avoided for the next two quarters. The food and beverage segment, which contributes 40 per cent to the top line, will also be impacted. Income from management contracts will also see a dip as the share is linked to the operating profit.

Less foreign tourist arrivals will also affect occupancies and the realisation per room. EIH (which runs the Oberoi and Trident brand of hotels) and Chalet will be the most affected as their share of foreign guests are upwards of 50 per cent. Foreign nationals account for 40 per cent of the customer mix for Indian Hotels and about 10 per cent for Lemon Tree. Most brokerages believe business from foreign customers will take longer to recover than domestic travellers and companies, which depend more on foreign consumers, will see a bigger hit on their occupancies and profitability.

While the only consolation for the sector is that the first half is usually the lean season with a revenue contribution of about 40 per cent, the recovery time will be critical. Given the losses expected from the sector in the next couple of quarters and chances of an increase in leverage, investors should avoid hotel stocks.