6 Nov, 2003

Sleeping Giant, But Not For Long

Imtiaz Muqbil

While China is seen as the “awakening giant” in terms of travel industry development, India is seen as the “sleeping giant”. But Indian hoteliers said their giant isn’t going to be asleep for much longer.

– From the Hotel Investment Conference Asia Pacific (organized by Horwath Asia Pacific and Sonnenblick-Goldman Company) in Hong Kong. Second of three dispatches on some of the major issues facing the Asia-Pacific hotel industry.

1. SLEEPING GIANT, BUT NOT FOR LONG — The Indian hotel market awakes.

2. HOW THE MONEY-MEN VIEW ASIA-PACIFIC HOTELS — Bankers and financiers assess the state of play.

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1. SLEEPING GIANT, BUT NOT FOR LONG

While China is referred to as the awakening giant in terms of travel industry development, India is referred to as the sleeping giant. But, addressing a panel on developments in their country, Indian hoteliers said their country isn’t going to be asleep for much longer.

Vijay Thacker, Director of Horwath India, outlined a number of reasons why the Indian hotel scene will boom. He said it has been a difficult market in the past but IS now growing again, with an expectation of 7-10 % economic growth over the next 4 to 5 years. While security is still an issue, and is being dealt with, the ground reality is not as severe as is made out to be, Mr Thacker said.

He cited a number of factors in favour of economic growth: 1) in addition to having a large domestic market, India is also an increasingly reliable exporter of goods and services — the perception of the “made in India” tag is changing. 2) the services sector is booming, particular in Information Technology and IT enabled services; 3) the rupee is closer to full convertibility and forex regulations have been liberalised — authorities “truly do not hamper flow of money on current or capital account”; 4) tax regulations have become comparatively easier and anti double tax agreements have been signed with many countries; 5) interest rates are lower and expected to stay that way; 6) forex reserves are now up to over US$ 85 b — however, this has strengthened the rupee and impacted the earnings of hotels which charge in dollars; 7) India is also experiencing a large growth in the retail sector and more franchise operations are entering the country.

Specifically in the hotel sector, Mr. Thacker cited the strong growth in demand and occupancies. In north Mumbai, the room-rate bloodbath that was widely predicted due to 3,000 rooms coming on has not happened as occupancies in all the new hotels have grown sharply. He also cited Bangalore where hotels are enjoying extensive growth — “if there was any place where you could build a hotel and keep it going profitably, that would be the place”.

Mr. Thacker noted that the hotel expenditure tax was removed earlier this year and will yield better average rates in future. He noted that most of the demand is from business travellers who will continue to travel even if more untoward incidents happen. While leisure destinations are lagging in profitability, there has been successful development of high-end resorts.

Mr. Thacker noted that there is increasing recognition of branding and national distribution, but scepticism of management-cost benefit. “International management companies (seeking to enter India) will have to justify their fees in a bigger way than they have been required to do in the past.” He said there is huge demand for banqueting.

Mr. Thacker identified the following opportunities: 1) For upper tier and luxury brands — selectively in the main metropolitan cities; 2) Mid-market and branded budget hotels — throughout the country; 3) Serviced apartments – all metropolitan cities. He said there are both development and management opportunities for the MICE industry in India where there is a shortage of large facilities.

In the area of hotel transactions and conversions, Mr. Thacker noted that many former state-owned hotels of the Indian Tourist Development Corporation have been converted into branded properties. While lower interest rates will provide development opportunities, Mr. Thacker said the issues to be cautious about included non-traditional developers, over-leveraging and owner-management reliability.

Mr. Claas Elze, VP International Hotel Development of Marriott, said that while a hotel upswing will continue as the economy develops, finding the right partner is the single most important issue in India. Putting the right project to bed is just as important. He noted that the JW Marriott took seven years to complete in Mumbai. But, he added, the situation is improving.

Today, foreign hotels can buy 100% equity in Indian hotels. There are no curbs on repatriation of foreign exchange earnings and approvals for capital gains have been simplified. As a result, in the last 18 months, a lot of new money has come into India.

So, how are home-based Indian chains like the Taj, Oberoi and ITC Hotels responding to the increasing presence of international chains in India?

Indian hotel chain executives say they are confident of holding their own, for the moment. Manav Thadani, managing director of HVS International, says foreign chains will need a unique competitive advantage to compete and will also be up against the powerful domestic sales forces of the big three Indian brands. Foreign chains don’t have a strong enough marketing base in India. However, if they can get good locations and good people doing the right things, it will work.

Raju Shahani, President and General Manager, Asia and Middle East, RCI, feels that 3-4 star international brands like Days Inn and Howard Johnson’s have a huge future in India. Adds Mr. Thacker, “If an international chain of substance comes in with strong organisations, sets up operations in a planned and methodical manner with some investment and patience, because of the quality investment they will bring into the market, they will be able to stand up to the three big chains.”

He noted that foreign chains are also adjusting their market penetration strategies; the Inter-con first sought to enter India via the franchise route but now does not want to franchise, whereas the Hilton is wanting to go on the franchise route as they have an excellent partner (the Oberoi group). “Hilton admitted making a few mistakes but they have decided to approach it differently and now expect a lot in the future.”

The issue of choosing the right partner is paramount. Mr. Shahani noted that Cendant and Days Inn had once appointed as their franchisee a movie star who didn’t know anything about the hotel business. Now, they are seriously looking at the right Indian partners. He said quality control will also be imperative to RCI’s growth in India. The master franchisee will have to grow the group to 100 to 150 properties and will have to sub-franchise. Other groups like Accor have also faced difficulties.

Mr. Zubin Dubash of Taj hotels says the group is not standing idle. It sees a huge untapped growth market, not necessarily just in the second and tertiary towns of India. He said Taj is about to launch a new range of high-tech hotels, with the first to open in Bangalore early next year. About a year and a half of research has gone into the product which, given the right product and price, will work. “We will have to get the economics correct especially in terms of tertiary costs, as rates will be lower than any other place in the world,” Mr. Dubash said, noting that if Taj gets it right, it can export the product to South America and China.

He said that one of the problems with developing a mid-market hotel brand in India is that the cost of land is very high. He acknowledged that there was a huge market for it. “The right way is to do it is to take one or two (hotels) and make them your flagship properties. Then other hotel owners will come forward and ask to be included in the management,” Mr. Dubash said

Leading Hotels of the World’s VP for the Asia-Pacific Mark Greedy noted the importance of the non-resident Indians market, which comprises about 30% of foreign arrivals. He said SARS had made Indians ‘go domestic’ and Indian hotels enjoyed best summer in years.

It was noted that business travellers are returning to India to capitalise on the opportunities to invest in infrastructure, roads, power and ports. For the first time in 15 years, financial and stock markets are lagging the real sector. Interest rates have fallen by half. Stock market valuations are extremely cheap compared to the rest of the world.

The panelists were asked why Indian hotel chains have not expanded aggressively abroad. Mr. Dubash said one reason was that there was a big domestic market to focus on. Secondly, there were capital constraints and thirdly, there was the need to get brand recognition in an international environment. He said the fact that international brands are coming to India is a good thing, because “if Indian brands do well against them in India, it will give us international recognition”. However, he said Taj was preparing to expand abroad, especially in the wake of the liberalisation of the Indian foreign exchange regulations, with Southeast Asia, Europe and China high on the list.

Mr Shahani said hotel developers are putting 10-30% of their inventory into time-share because it drives cash flow — “only when the hotel guys do badly they come to us.” He said he has always believed that Indian hotels are priced too high for the kind of value they deliver to hotel guests.

Mr. Shahani said that time-share in India will go through the normal phases. In the first, as it is a new product, people rush to buy. Then, in phase two, there are scams galore and dreams disappear. Then comes phase 3 when legislation comes in and the time share operators work with governments and developers to get things right. He said India luckily had been not as badly tainted as others. =================

2. HOW THE MONEY-MEN VIEW ASIA-PACIFIC HOTELS

Bankers and financiers say there is no shortage of money available for hotel investments in Asia but stress that they are becoming more cautious in their approach, “harsher” in scrutinising the numbers and focusing more on the ‘right deal’ rather than the amount of money required.

Doug Coulter, senior investment officer of the International Finance Corporation, a division of the World Bank, said that of the US$ 1.5 b invested in tourism by the IFC, US$ 450 m is in hotels. The IFC looks at anything from small US$1.2 m investments in small frontier markets to larger projects. It will consider long-term debt financing as well as certain equity projects. “We are clearly looking for project innovation and a developmental element. But we also want corporate governance and an improved general institutional framework.”

William Hunter, general manager of Non-Recourse Lending, Shinsei Bank, formerly the Long Term Credit Bank of Japan, says Shinsei has a capital problem — “we now have too much of it.” This, he said is because of nationalisation and inspite of bad loans in Japan, “we have a clean balance sheet.”

Gucharan Kadan, Group Head of Commercial Real Estate, said the primary focus in terms of hotels will continue to be Asia and Middle East, especially China, Hong Kong, Singapore, India and the UAE. The bank is also involved in other parts of the industry like tour operators.

Hunter said that a quiet revolution is under way in Japan where the economy is making positive progress. While the economic fundamentals are better and improving, it is still “a very delicate situation”. He said there is increased investor interest in leisure and boutique hotels. Overall, he said, hotels are not a bad investment — “certainly worth the risks in many people’s views. There is plenty of money, it’s all about finding the right deals.”

Mark Pawley of First Credit Suisse Boston said the bank sees hotel investment in Asia very favorably. A lot of institutional capital such as from Germany and Japan is starting to look at Asia. Middle East money is also coming in. He said the bank plans to expand its hotel portfolio over the next 10-15 years but may focus on Australia first.

Mr. Kadan said in the last 2-3 years, there has been a swing away by hotel operators from owning property. “Now they want to become only operators. The whole risk profile has changed.” He said this will make it difficult for stand-alone owners to get recourse loans unless they can show how they plan to manage and market their properties.

He said that due to 9/11 and others developments, banks see hotels as borrowers with extremely volatile cash flow. He said non-recourse loans are getting bigger but need better-structured loans, with stricter conditions and greater transparency and governance.

Asked about financing requirements in India and China, Mr. Kadan first discussed India where he said there were three categories of opportunities. The first were the large local hotel chains who dominate India which can raise finance using the full range of corporate products like club deals, multi-currency loans, etc., as per their requirements. That trend will continue, he said, as established Indian operators will find globally competitive deals.

The second are stand-alone owners of property which are given out to hotel operators. They find it harder to get money as they have nothing to do with tourism. They are usually other business operators or people with some reputable standing in the city in which they are operating. These borrowers normally raise the money from the local banks which decide on a case-by-case basis, depending on the structure, governance and recourse available to them. The 3rd borrowing opportunity is the international chains entering the market. However, they only want to operate, not own the asset. But Indian banks have high liquidity, and if global chains want to borrow in India, they will have to provide recourse.

In China, while it follows largely the same model, a large number of stand-alone owners and operators are coming in, Mr. Kadan said. Local owners will access local financial markets. The local Chinese banks are awash in liquidity and looking for better performing loans. Mr. Kadan said that although the Chinese government is looking to cool down the real estate market, it is likely that hotels will get excluded from these cooling-down moves.

Mr. Coulter said the IFC has only a small number of projects in Asia, largely because Asia itself has plenty of liquidity, a lot of local bank financing and attractive rates. Existing IFC projects are in Fiji, Cambodia and Thailand. But the IFC now has renewed interest in this sector and is now looking at projects in Vietnam, China, the Philippines, South Pacific, really across the region.

In China, the IFC is interested in secondary cities. The corporation also supports companies and groups with projects that “have an ecological twist and a cultural heritage element.” While the bank likes to see a reasonable amount of equity from the operators, if possible, it no longer insists on that. Instead, it feels that hotels have a developmental impact and instead of equity, it favours a well-structured management contract with incentive fees incorporated into it.

Mr Coulter said the IFC also is getting a lot more harsher in scrutinising “the numbers” many of which “we don’t believe in the first place anyway”. He cited the example of the Metropole Hanoi, the city’s first five-star hotel, in which the IFC is an investor. In beginning, it did very well but then a slew of star-rated hotels came up in the vicinity, putting the hotel under competitive and financial pressure, with the result that the loan had to be restructured. That had more of an impact than other external shocks, he said. Now, he said, the hotel is doing fine.

The IFC is also “thinking conceptually” about hotels in Iraq and Afghanistan. Other countries like Laos, Vietnam and Cambodia are still having a problem attracting capital “and that’s where our role comes in — we are the lender of last resort. But we can’t be an equity owner of last resort. Just because we have a developmental mandate does not mean we will finance everything that comes across our door.”

Asked how have lenders responded to the increasing concern over security and health issues, Mr. Hunter said that a lot of the problems of the last four months have been event-specific, like storm clouds, and the corporate response was to batten down the hatches and ride it out. This was very different than having a new hotel coming up next door which requires a different competitive responses. He described the response as being appropriate under the circumstances.

Asked specifically about the responses in terms of finance requirements in the new environment, the answer was that it varies. However, new proposals are clearly undergoing greater scrutiny and “the banks are a little bit more hardball on that, especially in terms of cash flow projections. Some kind of support from a brand is going to be critical to securing the finance.”

Added Mr. Kadan, “Clearly among the corporate and commercial banks there is an increased level of caution.” He said, “Finding the right deal is a bigger problem than finding the financeàIf demand is going to grow, we will need more structured financing, and better deals. We need to wait and see. If tourism remains stable, there will be higher level of confidence.”

One of the concerns is about Indonesia. Mr. Coulter said the Indonesia country office, now reopened after being closed some years ago, is bullish on the country. “We have seen a lot of positive things, the currency is strengthening, markets are up. Many investors are taking out US dollar debt and replacing them with local financing. That being said, there is a lot of concern in Washington where they see the bombings of the JW Marriott in Jakarta and in Bali and weigh that against reports from the region that things are improving.” With an election coming up next year, he described IFC’s view on Indonesia as being “cautiously optimistic”.

Another question is about the future of currencies, especially the RMB. Mr. Kadan said he didn’t think there would be revaluation of the RMB for next 2-3 years. Full convertibility is also many moons away. “China is not going to do what the pressure is asking them to do.” However, Mr. Hunter differed, saying the strengthening yen will set the stage for revaluation of the RMB.” Mr. Kadan forecast that the US dollar will weaken further over next six months as “there are compelling reasons in the US economy for that.” But the Hong Kong dollar will strengthen and the peg with the US$ will remain.

Mr. Kadan said about half of the SCB’s hotel investment programme will be in China. “It is a sector we like,” he said, noting that the bank is looking at a number of hotels, ranging from five-star hotels in Beijing, to small boutique properties, three-star business hotels outside the cities or in eco or cultural heritage sites. While there is concern about things like the non-performing loans, Mr. Kadan said that barring some external cataclysm, the Chinese tourism industry is expected to continue to do well.