Accor SA (EPA:AC) is a hotel group operating in 91 countries. The group owns, operates and franchises 4,426 hotels in various price ranges.
Accor has €1.7 billion in debt and €1.37b in cash. It has €3,537 million in equity and €1,085 in goodwill and intangibles.
Managing hotels in my opinion is a very competitive industry. It is not immune to an upstart. Anyone can open a hotel if they so want and run a very concentrated business. If they are willing enough (do most of the work themselves) they can even fare very well and manage to become a low-cost operator, challenging the big-wigs. Furthermore, the business is very asset heavy and it is easy to get a very low RoIC and RoA.
But then again, if you own the locations and the hotel, maybe you can buy the company only as a real estate play. And probably that is the only way in which I may consider buying Accor. Make no mistake, out of the last five years, the group has not been profitable only in 2008. From 2001 to 2007 the average net margin was around 5%, which is great for a hotel group. The revenue at the moment is €6 billion but a figure of €8 billion will be quite normal if the economy recovers. This means an income of €400 million and using a P/E of 10, a price of €4 billion. The current share price of €26.1 gets us a market cap of €5.93 billion and given that the net debt is around €400 million, the company is a bit expensive from the earning analysis.
Let us look at the group from a different perspective now. We will look to see if the hotels it owns might give us a good downside protection in terms of the value of the real estate. Out of the 4,426 hotels, Accor owns 15% of the hotels outright, 35% are fixed and variable leases, 24% are managed and 26% are franchised. Looking at the annual report, we see that the company owns 859 hotels and a total of 81,917 rooms. It is quite difficult to put a price on the hotel portfolio Accor has. Given that the group has 81,917 rooms, €50,000 per room is an okay figure. This gives a value of €4 billion. Any way I cut it, I do not see myself paying more than this for the stock, which is down 13% during the last 52 weeks.
The Hotel Business
The following is the list of companies in the hotel business. We see that worldwide Accor comes at the sixth position in the number of rooms it has. In Europe though it has the top spot.
There are a few things one notices after a brief research. Accor owns a larger percentage of the hotels than its competitors, i.e., the competitors mainly operate through franchise agreements and have most of the locations in the U.S.
The hotel industry seems to be divided into two business models. One is owning the brick and mortar along with the management. This way the company has more control over the hotel and the property can appreciate considerably too. The problem is that this appreciation in the property is not stated on the balance sheet. In fact, as you can guess, it is very difficult to calculate the value of the hotel property for an individual investor. The stock market valuations generally fail to reflect the price of the underlying assets and can sometimes result in a great deal for the long-term value investor.
The owner of the hotels and existing shareholders do not like the market discounting the price of the real estate. For example, Accor group is held 36.21% by the management and the founding members of the company. When they want to get some cash, they have to sell cheap even when they know that the hotels are worth much more.
A large part of the cost of managing a property is pretty much fixed. You have to pay the bills, pay taxes, fix some things, make a bit of change and so on. Apriori you know what the costs are. The management of the hotel when separated from the assets offers more flexibility in managing the variable costs associated with the property management. Furthermore, now the shareholders have a clearer picture of these businesses.
A second reason is that franchising (leasing the property and getting a cut of the revenue) offers a quick way to expand. When you franchise, you re-brand the hotel, put on an electronic reservation system, and you are good to go. The downside is that there is a risk of damage to the whole brand which the company has nurtured for a long time. Reputation is a very risky affair.
The current CEO of Accor is Denis Hennequin, and prior to that role he was the boss of McDonald's Europe. Even before his hiring there was clear shift in the strategy of Accor. Between 2005 and 2009 the company sold nearly 850 hotels. It has 859 hotels remaining as of 2011 and is in the process of halving the portfolio by 2013.
When I started researching the stock, I was hoping to own the hotels. I was hoping that the market might have discounted the price of the hard-core assets and I might sneak in and get a good deal. My thinking of Accor has changed drastically during the course of writing the article. I left the article like this to be a lesson to me how due diligence can change the way you view a business.
Bottom line, I do not want to own the stock anymore. Separating the management from the hard-core assets is going to have no downside protection. One sees that making money through brands is a great idea. I just wrote an article on Iconix (ICON) brand management. Generally, these businesses have low costs and generate a lot of free cash flow because they have no inventory, no capital expenditures and use the retained earnings to expand the business. It might end up being a great investment, but I do not like it at these prices.