ICICI Direct : Rates Kamath Hotels Outperformer

(BSE: 526668 | NSE: KAMATHOTEL | ISIN: INE967C01018)

Orchids & Lotuses bloom … Kamat Hotels plans to almost double its owned room count, from current 467 to 907, by FY10. Its advent into management of 1045 rooms by FY09 would catapult it in the league of the front runners in hospitality business with a diversified portfolio covering locations in metro as well as tier II cities. This expansion would lend a growth of 22% to its revenues and at current valuations make the stock a compelling BUY.

Room base to quadruple by FY09 Kamat Hotel has plans to expand its chain to tier II cities which are on growth path with favourable government policies and private sector focus. The current room base of 467 is expected to increase to 777 by FY09 effecting a 22% surge in revenues. Kamat Hotels plans to foray into management contracts of hotels; this step would help it to remain asset light along with better visibility of its brands. We expect pre-tax revenues arising from management contracts at Rs 3.86 crore in FY09 contributing directly to the bottom line.

Locational benefit The Orchid & Lotus Suites, Kamat Hotel’s two money spinners are strategically located near the Mumbai domestic and international airports respectively. The prime locations result in envious occupancy rates across the year for both the properties.

Business strategy Kamat Hotel follows the business strategy of charging average room rates (ARR) a tad lower to its competition, while capitalising on the occupancy rates throughout the year. This strategy augurs well for the company as they record operating margins at 46.7% in FY07, one of the highest in the sector. We expect Kamat Hotels to follow the same trajectory of high occupancies and higher margins in future.

Valuations Given the robust growth in the tourist inflows to India and the investment interest being high in cities where Kamat Hotel has expansion plans, we expect it to improve its margins and return ratios. At the current price of Rs 175, the stock trades at a P/E of 11.66x FY08E EPS of Rs15.13 and 9.22x FY09E EPS of Rs 18.95. We arrive at a DCF valuation of 232 on a base case scenario. We rate the stock an OUTPERFORMER with a price target of Rs 225 at 12x FY09E.

Company Background Kamat Hotels (India) (KHIL), promoted by Mumbai based Kamat Group in 1986, operates a 245 room five star hotel ‘The Orchid near Mumbai domestic airport and ‘Lotus Suites’ near Mumbai international airport. KHIL took over Kamat Plaza, a four star hotel near the Mumbai domestic airport. The management decided to upgrade the project to a five-star property in 1994. Marketing being an important aspect of the hospitality industry, the management decided to position the property differently. Kamat Hotel pioneered the ECOTEL® drive in the country with ‘The Orchid’ getting certified ‘ECOTEL®’ by HVS Eco Services, USA. The hotel was the first in Asia to obtain the coveted certification which defines the heightened level of environmental responsibility in the hospitality business.

"The Orchid" has won prestigious award like the PATWA International Award for the Best Chain Hotel for Eco Tourism, “Best Environmentally Responsible Individual Hotel” by The British Travel awards 2006.

The ECOTEL® hotels caters to a variety of groups, including not only traditional eco-tourists, but also discerning business travelers with interest in the environment, companies with advanced environmental programs as part of their own corporate cultures, eco-friendly vacationers, and of course business travel.

Room base to quadruple by FY09 Apart from adding rooms to ‘The Orchid’ Mumbai, Kamat Hotels plans to diversify and take its chain to tier two cities which are on growth path with favorable government and private sector focus. Post expansions Kamat Hotel would increase its room count from the current 467 to 777 in FY09. The company has planned Rs 250 crore capex for this expansion. This expansion is expected result in a 22% growth in their top line by FY09. Kamat Hotels also plans to expand its reach through the management contract route, which would help it to remain asset light despite the huge expansions. By FY09, it is expected to have 1045 rooms under the chain through management contracts. We expect pre tax revenues from management contracts at Rs 3.86 crore in FY09, contributing directly to bottom line. To sum it all, we expect the total room base to quadruple to 1822 in FY09 post doubling to 936 in FY08 from the current 467 rooms.

Mumbai: ‘The Orchid’ is the oldest and most successful property of Kamat Hotels. The hotel is constructed land leased for 30 years, renewable for further 30 years) from Plaza Hotels, one of the promoters. The Orchid started operations in 1997 with a 245 room inventory. Kamat Hotel now plans to expand the property by 120 rooms to capitalise on the supply shortage in Mumbai

Pune: With ‘The Orchid Heritage’, Kamat Hotel is entering into the business of developing premium, luxury hotel resorts. The Palace Hotel, which will be functional by the last quarter of FY08, will have 40 deluxe rooms. The total property is spread in 17 acres with the actual palace admeasuring about 2 acres. With mountains and lakes surrounding the palace and a historical background to top it all, the palace will be a huge draw for foreign travellers. Given their USP heritage hotels command higher average room rates (ARRs) and thereby their contribution to the top line and bottom line is significant. We expect the “The Orchid Heritage” to command ARRs in the range of Rs 10000-14000 during FY09, thereby contributing 4.6% to the top line.

Raipur: Kamat Hotel is extending its ‘Lotus Suites’ chain to Raipur, the capital of the mineral rich state of Chhattisgarh. The state is fast developing into a hub for steel, mining, cement and power industry. This would be the first four star green hotel in the state situated near the city airport with an inventory of 100 rooms. The hotel is expected to be operational by fourth quarter FY09. We expect the ARRs to lie in the range of Rs 3500-4000 in FY09 thereby contribute

1.3% to the revenues. Nagpur: Nagpur is soon to emerge as country’s cargo hub and centre of SEZs due to its unique geographical location just at the centre of India. Manufacturing giant Boeing has drawn up a $100 million investment plan in the aviation sector. In the IT sector, Satyam has plans to develop Software Technology Park on 350 acres of land in

Nagpur: A 180 room four star hotel under the Lotus Suites brand will be developed at 15 minutes drive from the Nagpur airport. This property will be soft launched with 50 rooms by fourth quarter FY09 and a complete launch of 180 rooms by third quarter of FY10. As the property would be operational for only one quarter in FY09 revenues we expect it to contribute 0.6% to the revenues.

Management Contracts: The company plans to expand its chain, though without burdening its books with the investment. It plans to foray in potential growth locations through management contracts. Kamat Hotel plans to increase managed rooms to 430 rooms in FY08 and to 1045 by FY09. We expect management contracts to contribute Rs 3.86 crore in FY09 directly to the pre-tax profits.

Properties in prime location Tourist arrivals to India have been experiencing a cumulative average growth rate (CAGR) of 18% for the period 2003-2006. In 2006, tourist arrivals to India touched record level of 4.4 million. For the seven months 2007, tourist arrivals are showing healthy growth of 12.6% over the 2006 numbers for the same period (Exhibit 5). With the peak season to start shortly, we expect the year to cross all previous tourist arrival numbers by huge margin. Mumbai alone attracts around 24% of the foreign tourist arrivals and is one of the cities to benefit the most from the boom in guest arrivals.

‘The Orchid’ & ‘Lotus Suites’, Kamat Hotel’s two money spinners are strategically located near the Mumbai domestic and international airports respectively. The prime locations results in envious occupancy rates across the year for both the properties along with competitive average room rates (ARRs) resulting in consistent upward trend in the revenues generated from these two properties (Exhibit 6 & 7).

‘The Orchid’ is the oldest and most successful property of Kamat Hotels. The hotel is constructed on land on lease for 30 years, renewable for further 30 years) from Plaza Hotels, one of the promoters. ‘The Orchid’ started operations in 1997 with a 245 room inventory. It has historically enjoyed one of the highest occupancy rates in the North Mumbai circuit (89% in FY06 & 88% in FY07). ‘The Orchid’ currently contributes around 73% of the revenues of Kamat Hotels.

‘Lotus Suites’ is a 4-star service apartment hotel near the international airport, the only one of its kind in the North Mumbai. The hotel came under Kamat Hotels in 2005 with 140 rooms. Currently the hotel is a 4-star Ecotel

property with 190 rooms post expansion. The hotel has seen healthy occupancy rates of 81%, strong ARR of Rs 4814 in FY07 and contributed 26.5% to the revenues. We expect ‘Lotus Suites’ would continue to hold its ground on ARRs and occupancy rates on the back of huge demand supply mismatch in Mumbai.

Business strategy Kamat Hotel follows the business strategy to keep their ARRs a tad lower to its competition, while it tries to capitalize on the occupancy rates throughout the year. This strategy augurs well for the company, it records operating margins at 46.7% in FY07, one of the highest in the sector. Going forward, we expect it would increase its operating margins by 210 basis points in FY08 to 48.6% and further improve it by 70 basis points in FY09 to report 49.3% operating margins on the back of strong room rates.

With the business getting diversified and revenues streaming from cities other than Mumbai, we feel the business would be more stable and de- risked. We expect ‘The Orchid’ would increase its share in the revenue pie in FY09 to 75% from the current 73% post the room expansion along with expectations of demand to remain strong. We expect around 6.5% of the
revenue in FY09 would be contributed by the expansions getting operational in the year. Since these properties would not be operational for the entire year FY09, we expect these to start contributing close to 20% of revenues by FY10. Management contracts, which are a new addition to the business for Kamat Hotels would give estimated revenue of Rs 3.82 crore which would constitute 8% of the pretax revenues. Going forward, we expect the management income doubling to Rs 6.35 crore by FY10 and this initiative by the company to be a money spinner in long run.

Future plans Vithal Kamat Veg. Restaurant: The Kamat restaurants once synonymous with `Vithal Kamat` will once again see spread all over the country. The company has embarked upon to achieve a target of 80 restaurants under this brand in the next 5 years. Kamat Hotel has tied up with Oil and Natural Gas Corporation (ONGC) and Mangalore Refinery & Petrochemicals Ltd (MRPL) for expansion of around 30 restaurants in their retail petro outlets. Currently there are 12 restaurants under the Kamat brand. The restaurant business is a high margin low investment business. This chain of restaurants will be Kamats’ fast food restaurant serving south Indian and other cuisines. Stake in Concept Hospitality in excess to 51%: Kamat Hotel plans to acquire stake in excess of 51% in Concept Hospitality, promoted by Mr. Vithal Kamat and Mr. K.P. Kannampilly. Concept Hospitality is engaged in hotel management and promotion, and consultancy services for hospitality business. Their current portfolio comprises of premium properties in Mumbai, Delhi, Kolkata, Pune, Jaipur, Goa, Mongolia and South Africa. The plans of making Concept Hospitality a subsidiary of Kamat Hotels through acquiring more than 51% stake would bring around 930 rooms under the Kamat Hotel umbrella and would prove to be a further trigger to the stock.

Execution Risk Any delay in the development of the upcoming properties would shift the revenue estimates downwards thereby affect the profitability negatively.

Tourist inflows to India Currently tourist arrivals to India have been experiencing an encouraging cumulative average growth rate of 18% for the period 2003-2006. In 2006, tourist arrivals in India touched record level of 4.4 million. For the seven months, 2007 tourist arrivals have shown a healthy growth of 12.6% over the 2006 numbers for the same period. Although we expect a continued growth in the tourist inflows driven by economic attractiveness, any slowdown in the tourist arrivals to India would bring a deceleration to the Indian hospitality dream run. We believe this scenario to be unlikely in the current frame of events.

South Asian Competition South Asian countries have been focusing on tourism incomes and are fast being recognized as economic destinations for tourism thereby attracting guests from India and other parts of the world. Corporate world has seen many group package bookings done for the region. These destinations pose competition for leisure hotels. We don’t think that Kamat Hotel faces such competition as it has properties located in areas where it focuses on the business travellers.

Terrorist activities Travel and tourism industry is highly sensitive to risks arising from terrorist activities. In case of a destination country being prone to terrorist strikes, the originator countries may pass a word of caution or on the extreme not allow their citizens to visit such countries, thereby impacting the hospitality business adversely for such period.

Impressive historically Kamat Hotel has shown a consistent growth in top line and bottom line. In the period FY05-07, when the Indian hospitality sector started to look upbeat, Kamat Hotels’ top line grew at an impressive CAGR of 45% from Rs 53 crore to Rs 112 crore while bottom line swelled 124% from Rs 4 crore to Rs 20.5 crore. Going forward we expect demand and supply of hotel rooms to remain in the favor of hoteliers and Kamat Hotel would witness a 22% growth in top line (Rs 142.6 crore in FY08 & Rs 167.8 crore in FY09) and 24% growth in bottom line (Rs 25 crore in FY08 & Rs 31.7 crore in FY09).

Margins to remain strong Kamat Hotels has been posting a steady increase in their operating margins and the trend is expected to continue in wake of growing tourist arrivals, demand supply mismatch and room base expansion. Net profit margins have also been steady at 18-19%. Although we expect a dip in net profit margins in FY08 to 17.6% due to increased interest cost accrued on the debt, we expect net profit margin to rebound to 18.9% in FY09E when its planned expansion becomes operational.

Favorable returns As we have estimated a full conversion of the 5.5% foreign currency convertible bonds (FCCB) aggregating to USD 18 million raised during FY07, therefore in FY08 we have estimated a dip in return on net worth to 10.3% as against 14.8% in FY07, however we expect the return to improve in FY09 to 11.5%. With strong room rates and business outlook to be robust in medium term, we foresee the return on capital employed to head northwards from 8.7% in FY07 to 12.1% in FY08 and post 12.6% in FY09.

VALUATIONS Given the robust growth in the tourist inflows to India and the investment interest being high in cities where Kamat Hotel has expansion plans, we expect it to improve its margins and return ratios. Kamat Hotel appeals as a robust business with sales growth expected at 22% with bottom line surging at 24% during FY07-09. Kamat Hotel valuations are one of the cheapest in the hospitality sector and it trading at 1.06x FY09 book value of 165 makes it further more attractive at current levels. At the current rice of Rs 175, the stock trades at a P/E of 11.66x FY08E EPS of Rs15.13 and 9.22x FY09E EPS of Rs 18.95. We rate the stock as an OUTPERFORMER with a price target of Rs 225 at 12x FY09E. On an EV/EBIDTA valuation, Kamat Hotels is attractive at 8.06x in FY07. Going forward an EV/EBIDTA of 6.35x in FY09 is impressive for a hotel. Our Discounted Cash Flow (DCF) valuation gives a value of 232 to the stock. We have assumed terminal growth rate at 2%. Risk free rate of return is 7.92% while market rate of return is taken as 15%. WACC works out to be 10.04%. Peer group comparison also emphasises that Kamat Hotel is available at the compelling valuations with the maximum estimated potential upside.

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  • hello sir,
    i want the contact of kamat veg restaurants as i have a prime location hotel property near the cummins india ltd in satara dist. near phaltan, i m looking for the franchise of kamat veg restaurents wheather they r intrested or not. kindly can u help me is this subject, it will be great for me.

    thank you. kindly reply.