Restructuring to unlock value in long run
About the stock: Lemon Tree Hotels (LTHL) is India’s largest hotel chain in the mid-priced hotel sector and the third largest overall, based on controlling interest in owned and leased rooms. LTHL currently operates 10,956 rooms in 121 hotels in India and abroad, under its various brands viz. Aurika Hotels & Resorts, Lemon Tree Premier, Lemon Tree Hotels, Red Fox Hotels and Keys etc.
Investment Rationale:
• Event – restructuring to unlock value: LTHL and Fleur Hotels (Fleur) boards have approved a scheme of arrangement designed to simplify the group structure, enhance strategic focus and unlock long-term value for shareholders. The proposed reorganisation will create two different entities 1) LTHL will be an asset light model and brand platform and 2) Fleur Hotels – as a large-scale growth-oriented hotel ownership platform with an attractive pipeline. Prior to restructuring, Warburg Pincus will acquire a 41.09% stake held by APG Strategic Real Estate Pool (APG) in Fleur (LTHL holds 58.91% stake). Existing shareholders will get shares of demerged Fleur in the ratio 20 shares for every 311 shares held in LTHL. Shares of Fleur will be listed on NSE/BSE post restructuring in next 15 months.
• LTHL – will be an asset light model; high FCF generation will be distributed through higher dividend payout: Post restructuring, LTHL will become a debt free asset-light company focused on offering hotel management, brand loyalty and digital services. Its existing room inventory of 11,769 rooms will go up to 25,000 rooms over the four years. Its management fees grew at a CAGR of 24% to Rs.170cr, which is expected to grow much faster with incremental room addition. LTHL (asset-light business) EBIDTA margins is expected to improve to 80% from the current 70%. With no interest cost and lower depreciation charges, it will be achieving PAT margins of 55%. Since there will be no major capex on books, incremental free cash flows will be utilised for higher dividend payout. Further LTHL shareholders will indirectly hold 74% in Fleur, creating incremental value for the shareholders in the coming years.
• Fleur – will become largest hospitality owner in India: Fleur will have a portfolio of high-quality assets with total room inventory of 5,556 rooms post restructuring. Flexible structure will enable Fleur to raise capital to accelerate growth through new developments and acquisitions. It will potentially be adding 3000 rooms through additional capital of Rs1,000crore deployed by Warburg Pincus, additional debt of Rs1,000- 1200crore and consistent free cash flow generation (expected to be Rs350cr in the first year) in the coming years. Fleur is expected to generate Net EBIDTA of Rs.1,000+crore in FY28.
• One offs to impact EBIDTA margins in FY26 and FY27; to normalise from FY28: The management highlighted that EBITDA margins in FY26 and FY27 are expected to be lower than normal range due to a combination certain one-off such as implementation of new labour code, loss of GST GST input credit (on rooms below ARR of Rs7,500) and one time property tax to be paid to Delhi airport. These one-offs will result in incremental EBIDTA margin dip of 400-500bps in FY26 and FY27. This will be over and above the higher renovation cost impact of 300-400bps on the margins. EBIDTA margins are expected to normalise close to 50% by FY28.
Rating and Target Price: We recommend Buy with a price target of Rs185 valuing it at 24x its FY27E EV/EBITDA. We will revisit our earnings estimates gaining more clarity on impact of new labour code post the Q3FY26 results
