Royal Orchid Hotels will outpace peers & narrow valuation gap with its peers. Buy for target price of Rs 498 (76% upside): Nuvama

Heavy expansion impacts margin, outlook strong

Revenue grew 15% YoY to INR67cr in Q2FY24 on healthy room additions and higher income from F&B and other services. ARR grew 7% YoY, but fell 3% QoQ, to INR5,087 (JLO rooms) in Q2FY24, with an occupancy of 73% (Q2FY23/Q1FY24: 75%/78%). EBITDA grew 1% YoY to INR15cr. However, margin contracted by 318bp YoY to 23.2% on higher fixed cost led by rapid room additions. PAT fell 20% YoY to INR7cr on lower other income, with higher interest and depreciation (with the addition of leased rooms). Sequentially, revenue/EBITDA/PAT fell 3%/15%/30% on a seasonal decline in RevPAR and higher staff cost.

To capitalise on favourable industry dynamics, it ramped up expansion, adding 692 keys (JLO/managed: 72/620) in H1FY24, taking the total inventory to 5,633 (JLO/managed: 1,238/4,395). In H2FY24, we expect ROHL to add another 408 rooms. Given the traction from domestic demand, constrained supply additions in the industry, and line up of key global events in H2FY24, we expect ARR to trend upwards. With an elaborate expansion plan in place, we expect ROHL to benefit from macro tailwinds. We expect a revenue /EBITDA/PAT CAGR of 29%/18%/27% over FY23–25. We downgrade our FY25 EBITDA estimate by 9% to account for near-term margin pressures owing to higher fixed costs for supporting the rapid portfolio expansion. We revise our TP to INR498 (earlier INR549, 12x FY25E EV/EBITDA) and maintain ‘BUY’.

Revenue in line on strong room additions, higher fixed costs hit margin

Revenue grew 15% YoY to INR67cr on strong room additions and a growth in income from F&B and other services. Revenue from room rent/F&B/other services grew 9%/19%/34% YoY to INR35cr/INR23cr/INR9cr. ARR for JLO rooms grew 7% YoY to INR5,087 on strong domestic demand and constrained supply in the industry. Occupancy stood at 73% (Q2FY23/Q1FY24: 75%/78%). While EBITDA grew 1% YoY on higher revenue, EBITDA margin contracted by 318bp YoY on: i) higher staff cost owing to the hike in the minimum wage rate and hiring for new hotels (employee cost rose 34%), ii) elevated spending on renovation and maintenance of rooms (~INR2cr), iii) increased fixed operating cost such as power and fuel (up 21%) and other overheads (other expenses up 15%) on major room additions. PAT fell 23% YoY to INR7cr on lower other income and higher interest and depreciation (146 rooms were added on lease in the last 12 months). Revenue/EBITDA/PAT fell 3%/15%/30% QoQ on seasonality (Q2 is the weakest) and higher staff cost.

Strong room addition pipeline one of the key growth drivers

As of September, ROHL operated 5,633 rooms (own/JV/leased/managed: 398/193/647/4,395 rooms) across ~95 hotels, catering to leisure, business, and the wedding segment. In H1, it added 692 rooms and intends to add another ~900 rooms by FY24-end. We conservatively estimate a total of 6,841 rooms by FY25-end against the management’s guidance of 8,000 rooms. Nearly 80%/20% of expected additions will be under management contracts/revenue sharing leases.

Expect revenue/EBITDA to clock 29%/18% CAGR over FY23–25

We expect 29% revenue CAGR over FY23-25 on: i) a 14% ARR CAGR, with strong occupancy levels, leading to 10% RevPAR CAGR, driven by favourable demand-supply dynamics and strong demand from local tourist; ii) its elaborate expansion plan of adding over 2,300 rooms in two years; iii) strong growth in F&B income, with a revival in large-scale weddings after the lifting of COVID-related restrictions and the expansion of the restaurant and banquet portfolio; and iv) its focus on boosting in-resort spends by offering value-add services. EBITDA margin is expected to settle at a sustainable 26% in FY25 as: i) the strong room additions will entail higher fixed costs (employee, power and fuel, and maintenance), which will impact unit profitability as new properties will take three-to-four quarters to ramp up, and ii) share of revenue from leased hotels, which earn a lower margin, is expected to increase. We expect 27% PAT CAGR over FY23–25, aided by lower interest cost.

Higher EBITDA to drive cash flows and deleveraging

With working capital cycle stable ~23 days, we expect a major portion of EBIT to flow down to OCF (10% CAGR over FY23–25). We expect a cumulative OCF of INR171cr in FY24 and FY25, of which ~INR83cr will be used for room additions and maintenance capex. The balance will aid deleveraging. We expect the net D/E ratio to improve to -0.11x in FY25 from 0.02x in FY23. With a large part of room additions under the asset light model, we expect RoCE to improve to 29.6% in FY25 from 25.6% in FY23.

Maintain ‘BUY’ with a TP of INR498

We remain positive on the industry given the favourable demand-supply dynamics in the near-to-medium term. We expect growth for ROHL to outpace peers, given its lower base, extensive room addition pipeline, and improving brand recognition, which will help to narrow the valuation gap with its peers. We maintain ‘BUY’ with a revised TP of INR498 (INR549 earlier) based on 12x FY25E EV/EBITDA