Hong Kong Hotels Time to Check In

Transcription

1 55 number SECTOR BRIEFING DBS Asian Insights DBS Group Research December 2017 Hong Kong Hotels Time to Check In

2 02 Hong Kong Hotels Time to Check In Jeff YAU CFA Research Director Ian CHUI Equity Analyst Produced by: Asian Insights Office DBS Group Research Goh Chien Yen Jean Chua Geraldine Tan Martin Tacchi Editor-in-Chief Managing Editor Editor Art Director

3 Executive Summary New Hotel Supply In Focus Hotel Investment Market Heating Up Revisiting the Alternative Use of Hotels Inbound Tourism on the Recovery Path Gradual Change In Tourist Mix Hotel Sector Light at the End of Tunnel New Tourist Attractions Better Links with the World Challenges Faced By the Hotel Industry Appendix

4 04 Executive Summary On the road to recovery Hotel occupancy on the rise Medium-tariff hotels Growth in hotel supply Potential redevelopment of hotels Buoyant investment market Visitor arrivals to Hong Kong grew 2.4% in 7M17, mainly driven by the growth of 4.9% in overnight visitors. Those from short-haul markets and China grew 4.7% and 5.7%, respectively. For the full year of 2017, we project a 2.4% growth in visitor arrivals to 58m, driven primarily by overnight visitors. The number of visitors from China and outside China are forecast to be 2.5% and 2% higher, respectively. During , we estimate that total number of visitor arrivals will grow at a four-year CAGR of 4%, with a similar increase in both overnight visitors and day-trippers. The return of overnight visitors has stimulated the recovery of the hotel market. In 7M17, overall hotel occupancy reached 88%, up 3ppts year-on-year. Medium-tariff hotels (equivalent to a three-star rating) showed noticeable improvement, with occupancy up 6ppts to 89% during the period. Occupancies of high-tariff A (equivalent to a five-star rating) and high-tariff B hotels (equivalent to a four-star rating) are 84% and 89%, up 3ppts and 2ppts, respectively. With rising occupancy on one hand and a low comparison base on the other, medium-tariff hotels have regained pricing power. Their room rates grew modestly by 6.9% in 7M17, with growth momentum likely to accelerate. This, coupled with occupancy gains, led to overall RevPAR rising c.15%. On the other hand, room rates of high-tariff A hotels remained under pressure, declining 5.7% in 1H17. This resulted in a marginal 2.2% decline in RevPAR. We forecast total hotel-room supply to increase at a five-year CAGR of 4.3% between 2016 and 2021, higher than the corresponding growth of 3.6% in Based on our projection of the growth of overnight visitors and hotel-room supply, we forecast hotel occupancy to stand at 90% for 2017, and then hover around 89-91% in With consistently high occupancy expected, hotel room rates and therefore RevPAR should see upward pressure. Given buoyant commercial property valuations, we believe an increasing number of welllocated three -to four-star hotels will be redeveloped into office or commercial buildings. If the Excelsior, J Plus, and Crowne Plaza Hong Kong Causeway Bay are redeveloped into commercial properties, hotel inventory in the area would be cut by c.1,200 rooms or 12%. This could potentially moderate the net growth in hotel-room supply, which should in turn push up the hotel occupancy as well as RevPAR growth. Since the beginning of 2017, with a wide array of buyers ranging from local investors to Chinabased developers. Initial property yield has remained relatively low at 4% or below because the hotel market is at an early stage of recovery and as some hotels are purchased for commercial redevelopment.

5 05 New Hotel Supply In Focus TDiagram 1. Hotel supply growth ( ) During , the supply of hotel rooms increased at a 10-year CAGR of 4.7%, slightly slower than the 10-year CAGR of 5.3% in overnight visitors in the period. The growth was stronger at 5.9% between , and then moderated to 3.6% between Among the three categories, high-tariff A hotels registered the strongest CAGR of 5.3% in room supply but the increase was skewed toward the first five years. Between 2011 and 2016, the rate of supply growth moderated remarkably, with the five-year CAGR standing low at 1%. The converse is true for medium-tariff hotel rooms, whose supply rose at a fiveyear CAGR of 3.4% in but 6.8% during Diagram 2. Hotel supply growth in High-tariff A Source: CEIC Source: CEIC

6 06 Diagram 3. Hotel supply growth in High-tariff B Source: CEIC Diagram 4. Hotel supply growth in Medium-tariff Source: CEIC The growth in hotel rooms is anticipated to gather momentum in In 1H17, eight new hotels, which altogether provide c.2700 rooms, opened for business. They include Kerry Hotel in Hung Hom, Disney Explorers Lodge, Silka Tsuen Wan in Kwai Chung, Hotel COZI, Wetland in Tin Shui Wai, and iclub Ma Tau Wai in To Kwa Wan. As at June 2017, there were 271 hotels in Hong Kong, with a total of 77,553 rooms. Hightariff A and high-tariff B hotels accounted for 24.1% and 38.6% of total hotel room inventory, respectively. Medium-tariff hotels made up 30.6% of the total, with the balance (6.7%) being unclassified hotels. In terms of location, Yau Tsim Mong is the most concentrated hotel district in Hong Kong, with 23,664 rooms or 30.5% of total hotel stock as of June This is followed by Wan Chai (13.2%) and Central and Western (11.2%). Moreover, Kowloon City and Eastern Hong Kong account for 9.9% and 6.4% of total hotel-room inventory. Kwai Tsing, Shatin, Tsuen Wan, and Island districts each makes up % of total hotel rooms available. Including guesthouses, the total number of rooms reached 89,819 as of June 2017.

7 07 Diagram 5. Breakdown of hotel-room inventory by type (June-17) Source: CEIC, HK Tourism Board Diagram 6. Breakdown of hotel-room inventory by district (Jun-17) Source: HK Tourism Board Our analysis suggests that the total supply of hotel rooms will increase at a five-year CAGR of 4.3% between 2016 and 2021.

8 8 Diagram 7. Hotel supply growth in F All hotels Source: CEIC Kwai Chung Far East Consortium s Silka Tsuen Wan held a soft opening in February This further expands the company s hotel-room inventory in Hong Kong, consolidating its position as one of the leading owners and operators of three- to four-star hotels in the city. Located in Kwai Chung, the property has 409 rooms targeting travellers seeking affordable hotel accommodation. It was converted from Big Orange Industrial Building, acquired in 2012, under the government s revitalisation policy for industrial buildings. No premium is required for this hotel conversion under this policy since the existing building frame has been retained. Silka Tsuen Wan

9 9 Hung Hom Kerry Hotel Hong Kong in Hung Hom is a new high-tariff A in Hong Kong. Shangri- La Asia acquired the site or HK$2.328b, or HK$3,470psf, through a government tender in December Located adjacent to newly built One HarbourGate on the Hung Hom harbourfront, this hotel overlooks Victoria Harbour and has 546 guest rooms. Opened for business in April 2017, Kerry Hotel Hong Kong marks the fourth hotel owned by this hotel group in Hong Kong and should complement its other hotels. Besides, Cheung Kong Property is currently undertaking the extension works at Harbour Grand Kowloon in Hung Hom to add 360 rooms which should come onstream in Kerry Hotel Hong Kong Central The Murray, Niccolo The soon-to-be-opened The Murray, Niccolo will definitely be in the limelight. Targeted for opening in late 2017, this luxury hotel, to be operated under the Niccolo brand, will offer 336 guest rooms with five restaurants or bars. It will become the flagship hotel of this new luxury hotel group, which opened its first hotel at Chengdu IFS in The hotel was converted from the iconic Murray Building, an ex-government building located behind Champion REIT s Three Garden Road. Harbour Centre Development, Wharf s 71%-owned listed subsidiary, acquired this building via government tender for HK$4.4b, or HK$13,535psf, in November Total investment exceeds HK$7b, which translates into HK$20.8m/room. In our view, this flagship hotel will play a crucial role in increasing the recognition of the new Niccolo brand by travellers. Wharf plans to build more Niccolo branded hotels at its IFS properties in China.

10 10 Tsim Sha Tsui New World Development is constructing this 3m-square-feet mixed-use project on the Tsim Sha Tsui waterfront. About onethird of total GFA will be earmarked for hotel use. The hotel will offer 398 guest rooms and marks the first in Hong Kong under the luxury Rosewood brand. It is targeted for opening in mid This luxury hotel should ensure foot traffic to the 1m sf shopping mall and provide synergetic benefits with an office portion. Rosewood Hong Kong North Point Cheung Kong Property and SHKP (16.HK) are building two hotels on the North Point waterfront. They will altogether provide >1500 units upon scheduled completion in 2018, representing c.30% of existing supply in Island East. Hotel Vic is near Victoria Harbour, a residential/retail project also being built by SHKP. SHKP acquired this waterfront site for hotel development via government tender for HK$2.722b or HK$7,025psf in May2013. Construction is now well underway. This waterfront hotel featuring 671 rooms is expected to open for business in Cheung Kong Property is developing a hotelcum-residential project on the Oil Street site that housed the former government supplies depot in North Point. The company paid HK$6.267b for this waterfront site in a government tender in August This mixed-use development will include a business hotel which offers 840 guest rooms. Since this new hotel is opposite the company s Harbour Grand Hong Kong, operational synergies are expected when it commences operations in Hotel Vic Oil Street Hotel project

11 11 Wan Chai Emperor International is scheduled to open a new hotel in Wan Chai in late Located near Far East Consortium s Cosmo Hotel and Dorsett Wan Chai on Queen s Road East, this new hotel will provide 299 guest rooms. Queen s Road East hotel project In the area, China Resource Holdings is constructing a luxury hotel opposite Central Plaza and Great Eagle Centre. With 129 rooms, this new hotel will be branded under St. Regis and is expected to open for business in St. Regis Hong Kong Hopewell Holdings is developing Hopewell Centre II in Wan Chai, which includes a conference hotel with 1,028 rooms as well as retail facilities. Total GFA is 1.09m sf, c.75% of which is earmarked for hotel use. Total investment is estimated to reach HK$9-10b. It will be the largest conference hotel in Hong Kong with comprehensive conference facilities. Site formation works are underway. Due to prolonged site formation and foundation works, this hotel is now scheduled to commence operations in Hopewell Centre II

12 12 To Kwa Wan iclub Ma Tau Wai I-Club Ma Tau Wai, owned by Regal REIT, has commenced operations recently. Located in To Kwa Wan, this hotel contains 340 guest rooms. Tai Kok Tsui A consortium equally owned by Paliburg Holdings (617.HK) and Regal Hotels also won the URA tender for a hotel site in Tai Kok Tsui in June The building plans have been approved. This site is being redeveloped into a 288-room hotel and is scheduled to open for business in Island South Ocean Park Lai Sun Development was officially awarded the hotel tender by Ocean Park Corporation in May The Ocean Hotel is situated near the Entry Plaza of the waterfront area at the lowland of Ocean Park. It will be operated by the Marriott Group and provides 471 guest rooms with GFA of 366,000 sf upon its targeted completion in early The total development cost is estimated at c.hk$4.4b. Ocean Hotel In January 2017, a consortium comprising Sino Land (60%) and Empire Group (40%) was picked to develop Hong Kong Ocean Park Fullerton Hotel to be situated at the site between Po Chong Wan and Tai Shue Wan, which is adjacent to the forthcoming Water World. This hotel has total GFA of 436,691sf with a maximum of 460 rooms. It will consist of two 10-storey hotel towers above a four-storey podium. Total project cost is estimated at c.hk$3b. Lantau - Disneyland Consistently high occupancy at the existing two hotels prompted Hong Kong Disneyland (HKDL) to develop the third hotel, the Disney Explorer s Lodge, which opened for business at end-april The Disney Explorer s Lodge has four distinct gardens featuring South American rainforests, Polynesian seas, Asian landscapes, and African savannahs, with three themed restaurants, a shop, and a large outdoor swimming pool. The new explorationthemed hotel increases the number of room inventory at HKDL to 1,750 from 1,000. This enables HKDL to attract more guests, particularly for those MICE travellers.

13 13 Hotel Investment Market Heating Up Since the hotel market started showing signs of recovery in early 2017, the hotel investment market has been heating up rapidly, with a growing number of hotel transactions. There is a wide array of buyers, ranging from local investors to listed China-based developers. Since the hotel market is in an early stage of recovery, initial property yields are relatively low, especially for hotel properties which are purchased for commercial redevelopment. Henderson Land exits the hotel industry In February 2017, Henderson Land Development (12.HK) agreed to sell Newton Inn in North Point and Newton Place Hotel in Kwun Tong. Newton Inn was sold to Hong Kong-listed Shun Ho Property (219 HK) for HK$1b. Shun Ho Property is majority-controlled by William Cheung, son-in-law of Lee Shau Kee, Henderson Land s major shareholder. Newton Inn is located on Chun Yeung Street, 5- to 6-minute walk from North Point MTR Station. The hotel is a three-star hotel. It contains 317 guest rooms and food & beverage facilities with GFA of 143,342sf. In 2016, the hotel made losses. The disposal price valued each hotel room at HK$3.15m or the property at HK$6,976psf. Shun Ho Property will seek to lease the hotel to a hotel operator for the medium term and has a long-term plan to convert or redevelop it into a commercial property. Newton Place Hotel in Kwun Tong was sold to a local property investor (Tang family) for HK$2.248b or HK$3.76m/room. Located at Wai Yip Street, Newton Place Hotel is threestar hotel. It provides 598 guest rooms with GFA of 235,300sf. The hotel was redeveloped from an industrial site with land premium payment of HK$1,257psf. It opened for business in Newton Inn Newton Place Hotel Following these disposals, Henderson Land almost exited the hotel industry. The Kowloon Newton Hotel in Prince Edward was redeveloped into residential building High Park Grand. The Hong Kong Newton Hotel in North Point is being redeveloped into an office tower. Meanwhile, Mira Moon in Wan Chai is the only hotel which is wholly owned by Henderson Land. This boutique hotel contains 99 rooms and is managed by its listed associates Miramar Hotels (71.HK).

14 14 The Tang family, which purchased the Newton Place Hotel, further expanded its hotel presence in Hong Kong in August It acquired Hotel Bonaparte in Wan Chai for HK$450m or HK$5.6m/room from Rhombus Group. The initial property yield stands at c.3.5%. Located at Morrison Road between Wan Chai and Causeway Bay MTR stations, the hotel opened for business in 2008, with 80 guest rooms. Unlocking the hidden value of small hotels Far East Consortium sold Silka West Kowloon Hotel in Tai Kok Tsui to Golden Wheel Tiandi Holdings for HK$450m or HK$3.19m/room in May Completed in 2005, Silka West Kowloon Hotel is a three-star hotel with 141 guest rooms. Following the completion of the transaction, Far East Consortium will provide hotel-management service and return guarantee for six years. If gross operating profit is less than HK$18m a year, Far East Consortium will make up the shortfall. On the other hand, if gross operating profit exceeds HK$18m, Far East Consortium is entitled to share 50% of the surplus. Put differently, Golden Wheel Tiandi acquired this hotel at an initial property yield of 4%. Silka West Kowloon A Singapore-based property fund sold Butterfly on Hollywood in Sheung Wan to Travelodge for HK$850m or HK$5.74m per room. Located at Hollywood Road, this 24-storey hotel opened for business in April It comprises 148 guest rooms with GFA of 58,700sf. It is classified as a medium-tariff Hotel. Based on the acquisition price, we estimate initial yield at <3%. The hotel used to be an office building. Far East Consortium bought it and converted it for hotel use. In 2011, Far East Consortium sold it to this property fund for HK$515m. In January 2017, CSI Properties (497.HK) sold J Plus the J Plus Hotel and other small properties nearby in Causeway Bay for HK$1.7b to a local property investor who already has property exposure in the area. The property is a 25-storey composite tower completed in The ground and first floors are slated for retail use. J Plus, which contains 56 rooms, operates on 3/F to 24/F. Total GFA is 44,678sf. Given its proximity to Causeway Bay s key shopping area, this property offers enormous redevelopment potential, which explains why this hotel was valued at >HK$30m/ room. We expect the buyer to redevelop the hotel into a commercial tower.

15 15 Regal REIT expanded its hotel portfolio In June 2017, Regal REIT agreed to buy iclub Ma Tau Wai Hotel in To Kwa Wan from a consortium equally owned by its parents Regal Hotel and Paliburg. The acquisition was completed in September Located at Sheung Heung Road, this 22-storey hotel offers 340 guest rooms with GFA of 67,791sf with a soft opening in May The acquisition price is HK$1.36b or HK$4m per room. Regal REIT leased this hotel to Regal Hotels for a term of five years, with an option to extend for another five years. The rental will be fixed at 4%, 4.25%, 4.5%, 4.75%, and 5% p.a. of the purchase price for the first five years, and subject to annual market rental review for the second five-year term if extended. The initial yield is largely in line with other comparable hotel transactions. Following this acquisition, Regal REIT will own nine hotels with >4,900 guest rooms. Diagram 8. Selected hotel transactions Date Property Location No. of Rooms Price (HK$m) Price (HK$m/ rm) Est. Initial yield (%) Buyer Seller Remark Jan-17 J Plus Causeway Bay 56 1, <1% Local Investor CSI Prop Feb-17 Newton Inn North Point 317 1, n.a. Shun Ho Henderson Prop Feb-17 Newton Kwun Tong 598 2, <3% Tang Family Henderson Place - local investor May-17 Silka West Tai Kok Tsui % Golden FEC Kowloon Wheel Jun-17 iclub Ma Tau To Kwa Wan 340 1, % Regal REIT Paliburg, Regal Wai Hotel Hotel Aug-17 Hotel Bonaparte Wan Chai c.3.5% Tang Family - local investor Rhombus Group (unlisted) For redevelopment purpose Loss-making Source: Companies, News media

16 16 Revisiting the Alternative Use of Hotels In the recent two years, commercial property values in Hong Kong have been appreciating rapidly, supported by solid demand from a wide variety of buyers including property funds, local investors, and China-based corporates. This has prompted hotel owners to revisit the value proposition of their own properties for alternative use. In some cases, the owner could enhance the property values noticeably via converting or redeveloping it for office use from hotel. In general, it is also easier to manage the daily operations of an office property than a hotel. The Excelsior Singapore-listed Mandarin (MAND.SP) decided to test market interest in the possible sale of The Excelsior, Hong Kong, given the buoyant commercial market. Opened for business in 1973, The Excelsior is located on the waterfront of Causeway Bay. This four-star hotel provides 886 guest rooms, the majority of which offers a panoramic view of the harbour. Earlier, the company had received approval from the Buildings Department for redeveloping the hotel into a commercial building with GFA of 683,508sf. In the recent years, trophy office property has been very sought-after by China-based enterprises. We reckon that The Excelsior, Hong Kong, if redeveloped into office/retail property, should command a higher value than if it if remained as a hotel, by virtue of its premium location. The market estimates that this hotel property could fetch c.hk$27b or HK$40,000psf, assuming that it is redeveloped into a commercial property. This translates into >HK$30m per room, a valuation that even top-grade hotels in Hong Kong are unable to fetch. As of mid-september 2017, Mandarin Oriental said it has received bids for Excelsior but no decision has been made regarding a sale.

17 17 In July 2017, Rhombus Group shut down Hotel LKF in the Lan Kwai Fong area of Central after operating it for nearly 11 years. This hotel occupied the high zone of LKF Tower with 95 rooms, and is being converted into office space of 85000sf. This move is sensible, considering the lack of new office supply in Central in the coming four years. Hotel LKF In addition to the potential redevelopment of Newton Inn, J Plus, and The Excelsior into commercial properties, SEA Holdings (251. HK) applied to the Town Planning Board to redevelop Crowne Plaza Hong Kong Causeway Bay into a commercial property with GFA of 160,900sf. This hotel currently comprises 263 guest rooms. Unlike the Excelsior in the area, Crowne Plaza Hong Kong Causeway Bay, opened for business in 2009, is relatively new. Assuming the Excelsior, J Plus, and Crowne Plaza Hong Kong Causeway Bay are redeveloped into commercial properties, hotel inventory in the area would be cut by c.1,200 rooms or 12%. Crowne Plaza Hong Kong Causeway Bay We do not rule out the possibility of more well-located hotels being redeveloped into offices in the coming years. This could potentially moderate the hotel supply growth in the medium term.

18 18 Inbound Tourism on the Recovery Path Correction Total visitor arrivals to Hong Kong fell 2.5% to 59.3m in 2015, the first decline since This was mainly driven by a decline in the number of tourists from Mainland China (-3%), who made up over three-quarters of total visitor arrivals. Mainland Chinese tourist arrivals started to decline from June The strength of the local currency made visiting Hong Kong expensive for tourists. In addition, Europe (including the UK) and Japan relaxed their visa policy for mainland tourists, which encouraged them to travel there instead of Hong Kong. In April 2015, the Hong Kong government modified the One Visa, Multiple Entry arrangement for eligible permanent residents in Shenzhen following rising public outcry over the excessive growth in the number of the mainland visitors over the past few years, especially in areas near the border. With the implementation of a modified multiple-entry arrangement, qualified permanent residents from Shenzhen are allowed to visit Hong Kong once a week. This led to a gradual fall in day-trippers from China over time. In 2016, Hong Kong welcomed 42.8m mainland tourists, down 6.7% y-o-y, leading to a 4.5% decline in total visitor arrivals. Nevertheless, the number of tourists outside China grew 3.1%, which compensated for the shortfall. Both long- and short-haul markets registered growth. Even better, overall inbound tourism started to exhibit some signs of stabilisation towards the year-end, especially in overnight visitors. Compared with 1H16, overnight arrivals to Hong Kong staged a recovery in 2H16, led by tourists from the mainland. After falling 2.1% y-o-y in 1H16, overnight visitor arrivals improved 1% y-o-y in 2H16. This led to a marginal decline of 0.5% y-o-y for the full year of 2016, which compared favourably with 2015 s 3.9%. Since the beginning of 2017, Hong Kong has started to see the return of tourists. In 7M17, total visitor arrivals numbered 33m, representing 2.4% y-o-y growth. This was led primarily by the number of overnight visitors which grew 4.9% to 15.6m, representing 47.3% of total visitor arrivals. Overnight visitors from China grew larger 5.7%. The number of same-day travellers also resumed growth of 0.2% in the same period (2016: down 7.7%). In particular, the number of Chinese day-trippers rose 0.4%, which compares favourably with a decline of 8.7% in 2016.

19 19 Diagram 9. Visitor arrivals growth - Overall Diagram 10. Visitor arrivals growth Overnight visitors Diagram 11. Visitor arrivals growth Same-day travellers Diagram 12. Visitor arrival growth China Diagram 13. Visitor arrivals growth Outside China Sources: CEIC

20 20 In our opinion, the weakness in the local currency contributed partly to the return of tourists. Particularly, the number of mainland tourists, which make up three-quarters of the total, is positively correlated with the value of the RMB. Contrary to original expectations, the RMB has appreciated >5% against the HK$ year-to-date. This has stimulated the return of mainland tourists. By the same token, the currency remains a key swing factor in the industry s performance. Diagram 14. Visitor arrivals from China vs RMB Source: CEIC, Bloomberg Financial L.P. By country/territory, the number of tourists from outside China grew 1.8% y-o-y to 8m, making up 24.3% of the total in 7M17. Visitors from short-haul markets rose 2.5%, driven mainly by overnight visitors (+4.7%). Key markets such as Japan and South Korea continued to perform well, with visitors growing 15.3% and 8.8% compared to the corresponding period in Those from two growing markets, Indonesia and the Philippines, increased 5.5% and 15.1%, respectively. Those from long haul markets were 0.5% higher in 7M17. During the same period, there were 25m mainland Chinese visitors, up 2.6% y-o-y, reversing the downtrend in the previous two years. For the full year of 2017, we are projecting 2.4% growth in visitor arrivals to 58m, supported mainly by an estimated 4.7% growth in the number of overnight visitors. The number of tourists from China and outside China are forecast to be 2.5% and 2% higher, respectively. For , we estimate that the total number of visitor arrivals will grow at a four-year CAGR of 4%, with similar growth in both overnight and same-day travellers. Chinese tourists should register a four-year CAGR of 4.4% during the same period. The corresponding growth for day-trippers is expected to be slightly higher due to the completion of Hong Kong- Zhuhai- Macau Bridge and Express Rail Link, which should improve the connectivity between Hong Kong and the Pearl River Delta.

21 21 Gradual Change In Tourist Mix The lion s share In terms of guest mix, about three-quarters come from mainland China, making it Hong Kong s predominant guest source. Back in 1997, when the sovereignty of Hong Kong was handed over to China, the mainland only accounted for 20.9% of total tourist arrivals. Its share has climbed remarkably since 2003, when the Individual Visit Scheme was introduced. After hitting its peak of 77.7% in 2014, its share started to retreat slightly. Diagram 15. Total visitor arrivals Source: CEIC Diagram 16. Breakdown of visitor arrival by country and region (2016) Source: CEIC

22 22 South Korea has overtaken the US and Japan South Korea has been one of the fast-growing sources of visitor arrivals in recent years. From 2006 to 2016, the number of South Korean visitors rose at a 10-year CAGR of 6.8% to 1.39m in 2016, accounting for 2.5% of the total. This made it the third-largest guest market after mainland China (75.5%) and Taiwan (3.6%). Meanwhile, tourists from the US recorded sluggish growth in the same period. The number of Japanese tourists also fell by 17%, resulting in their declining share of total visitor arrivals. In 2016, the US and Japan accounted for only 2.1% and 1.9% of total tourist arrival, respectively, down from 2006 s 4.6% and 5.2%.

23 23 Hotel Sector Light at the End of Tunnel Driven by the declining number of overnight visitors, overall hotel occupancy in Hong Kong fell by 4ppts to 86% in 2015, the lowest since 2009, with medium-tariff hotels experiencing more pressure. The downtrend continued into Faced with falling demand for hotel accommodation, hoteliers have been cutting room rates since the beginning of 2015 in an attempt to minimise occupancy loss. In 2015, overall hotel room rates declined 9.2% y-o-y. The hotel market also started to stabilise across the board in tandem with the revival in overnight arrivals to Hong Kong in 2H16. Overall hotel occupancy gained 2ppts to 88% and 92% in 3Q16 and 4Q16, respectively. Medium-tariff hotels witnessed swifter occupancy recovery than other hotels. Their occupancy rate picked up 2ppts to 90% in 3Q16 and 4ppts to 93% in 4Q16. High-tariff hotels have also been on the road to occupancy recovery since 2Q16. Consequently, Hong Kong s hotels finished 2016 with occupancy 1ppt higher at 87%. Diagram 17. Hotel occupancy Overall Diagram 18. Hotel occupancy High-tariff A Sources: CEIC

24 24 Diagram 19. Hotel occupancy High-tariff B Diagram 20. Hotel occupancy Medium-tariff Diagram 21. Hotel occupancy Overall Diagram 22. Hotel occupancy High-tariff A Diagram 23. Hotel occupancy High-tariff B Diagram 24. Hotel occupancy Medium-tariff Sources: CEIC

25 25 Aided by the recovery in overnight visitor arrivals, hotel occupancy continued its upward trajectory. In 7M17, overall hotel occupancy reached 88%, up 3ppts y-o-y. Hotel occupancy should have remained on a recovery path even allowing for a low comparison base in February 2016, when riots broke out in Mongkok over the Chinese New Year period, which further dampened inbound tourism noticeably. Among different grades of hotels, the mediumtariff hotels, which were hard hit during the previous downturn, witnessed the strongest improvement in occupancy. In 7M17, occupancy at medium-tariff hotels stood at 89%, up 6ppts. Occupancy at high-tariff A and B hotels were 84% and 89%, up 3ppts and 2ppts, respectively. Diagram 25. Change in room rates Overall Diagram 26. Change in room rates High-tariff A Diagram 27. Change in room rates High-tariff B Diagram 28. Change in room rates Medium-tariff Sources: CEIC

26 26 While the recovery in hotel occupancy has been gathering momentum, improvement in room rates lagged. In general, medium-tariff hotels fared better than their high-tariff counterparts and they have been able to raise their room rates since 3Q16, aided partly by the low comparison base. Their room rates increased 1.9%, 2.9%, and 6.9% in 3Q16, 4Q16, and 7M17, respectively. Meanwhile, room rates of high-tariff A hotels remained on the downtrend, falling 5.7% in 7M17. With gains in both occupancy and room rates, RevPAR of medium-tariff hotels grew 14.6% in 7M17. In the same period, RevPAR of high-tariff B hotels went up 3.6% while that of hightariff A hotels was 2.2% lower. Against this backdrop, we believe that operators of three- to four-star hotels should see remarkable improvement in profitability. Far East Consortium is a case in point. With a portfolio of 10 three-star or four-star hotels in operation in Hong Kong, the company should be among the prime beneficiaries of the hotel sector s recovery. In addition, Langham Hospitality Investments, which owns three hotels with >1,600 rooms, resumed positive and above-market-average RevPAR growth in 1H17. Based on our projection of the growth of overnight visitors and hotel-room supply, we estimate the overall hotel occupancy will stand at 90% in 2017 and hover around 89-91% in Given consistently high occupancy rates expected, there should be upward pressure on room rates as well as RevPAR in future years..

27 27 New Tourist Attractions Water Park at Ocean Park Ocean Park is constructing a new all-weather water park Water World at its existing site in Wong Chuk Hang. Water World will span twice the size and feature three times as many attractions compared to the previous facility. The new Water World is targeted to open in 2H18. It is estimated that the new Water World would welcome 7,000 visitors per day or 10,500 visitors per day during peak seasons. According to the government, the length of stay for non-local visitors could be extended by 0.75 days with the addition of this new water park. This, coupled with the opening of two new hotels at Ocean Park in 2018 and 2020 respectively, should transform this theme park into a landmark international resort destination, which holds more appeal to tourists. Hong Kong Disneyland expansion In November 2016, Walt Disney unveiled its US$1.4b expansion plan for Hong Kong Disneyland (HKDL), with the approval from the Hong Kong Legislative Council recently obtained. Three new attractions are planned. First, a new themed-area based on the Frozen animated film will feature rides, dining, shopping, and entertainment. Second, a new Marvel Comics themed-area includes an Iron Man ride. Third, the castle will be re-modelled and expanded. The full expansion would bring the total number of attractions to 130 from the current 110. The expansion would involve the closure of some existing rides and conversion of some existing park space for constructing new additions which are set to open gradually starting from 2018 till West Kowloon Cultural District (WKCD) The first phase of 40-hectare West Kowloon Cultural District (WKCD), located along the coastline of the Victoria Harbour, is scheduled to come on stream from 2018 onwards. With total investment of HK$2.7b, Xiqu Centre has a 1,100-seat Grand Theatre and a 200-seat Tea House Theatre. Targeted to open in late 2018, this Chinese opera centre will be the first performing arts venue at the WKCD. Besides, the M+ Museum is scheduled to open to the public in The M+ will house a collection of modern visual art, architecture, and moving images. Announced in December 2016, the Hong Kong Palace Museum is a collaboration between the West Kowloon Cultural District Authority and the Palace Museum in Beijing. The Beijing museum will loan a portion of its collection to Hong Kong Palace Museum on a long-term basis. The Hong Kong Palace Museum will have GFA of c.30,500 sm and exhibition space of c.7,600 sm. Other facilities of the Hong Kong Palace Museum will include a digital gallery, activity rooms, a lecture theatre, a souvenir shop, and a restaurant. The Hong Kong Palace Museum will be operated and managed by the West Kowloon Cultural District Authority. Construction works are expected to commence in 2017 with the museum estimated to open in 2022.

28 28 Better Links with the World Hong Kong/Zhuhai/Macau Bridge Hong Kong Zhuhai Macao Bridge (HZMB) officially started construction in December The HZMB will provide land transportation between Hong Kong, Mainland China, and Macau. The main bridge has a total length of 29.6km, which includes c.6.7km of tunnels. The construction cost for the main bridge of HZMB is estimated at RMB15.73b, RMB6.75b of which will be contributed by Hong Kong. The entire project is now scheduled to be completed by end-2017, following some delays in Upon completion, HZMB will cut travelling time between Zhuhai and Hong Kong from >3 hours to c.40 minutes, which could encourage more residents in the western part of Pearl River Delta to travel to Hong Kong. Besides, the improved transportation links between Macau and Hong Kong could encourage more incoming tourists to make a visit to Macau after Hong Kong, thus increasing their length of stay in Hong Kong. Express Rail Link The Express Rail Link (XRL) will connect Hong Kong to China s high-speed railway network via Guangzhou and Shenzhen. Construction for the 26-km XRL commenced in 2010 and the cost estimate for the Hong Kong portion is c.hk$85.3b. The terminus of the XRL is located at the West Kowloon Cultural District (WKCD). No intermediate stations within Hong Kong are planned. The XRL is expected to come into service in 3Q18. This should enhance transportation links between Hong Kong and Southern China, which should be positive for the city s long-term inbound tourism growth. Third Runway at Hong Kong International Airport The Hong Kong Government gave the green light for the development of the third runway at the Hong Kong International Airport (HKIA) in March 2015 and granted approval for reclamation works to be carried out for this runway development project in April Project completion is expected by Total development cost is estimated at HK$141.5b. The HKIA estimates that the new three-runway system would allow it to handle 30m additional passengers by In total, the entire HKIA is projected to handle 102m passengers, 8.9m tonnes of cargo, and 607,000 aircraft movements per year by This should be crucial for inbound tourism growth over the long term.

29 29 Challenges Faced By the Hotel Industry Airbnb has been growing rapidly in recent years. It is an online platform which allows people to list, find, and rent vacated homes. Vendors list their vacant apartments or rooms, specifying the type of amenities provided and the listing price. Travellers view the aggregate listings in their holiday destination and filter these listings in accordance with their specific criteria, such as location, price, type of property, amenities etc. Airbnb provides travellers with a convenient platform to search for a wider variety of accommodation, which tends to be cheaper than hotels. It also offers vendors additional income for vacant spaces. In return, Airbnb charges a service/processing fee to both travellers (an additional servicing fee of 6-12% on top of each transaction amount) and vendors (a processing fee of 3% for each transaction amount). Airbnb operates in an uncharted legal territory. Under the Hotel and Guesthouse Ordinance, hotel owners or hotel operators are required to apply for hotel licenses, without which will result in a breach of the Ordinance. However, Airbnb vendors do not need to have any hotel license. In our view, tiny flat sizes and lack of vacant space would hinder the growth of Airbnb in Hong Kong. Given spiralling home prices, most of Hong Kong s residents are unable afford to buy large apartments. Under these circumstances, it is hard to imagine that they have idle space or rooms to rent out as accommodation to travellers. This inevitably affects the supply of apartments available for short-term lodging. In our view, the current situation is unlikely to improve in the foreseeable future. Culturally, sharing space with strangers has yet to be widely accepted among locals. Given the constraints, Airbnb is unable to cater for the needs of group travellers and sophisticated business travellers. It may hold appeal to those seeking affordable short-term accommodation. Overall, we do not expect any head-on competition between traditional hotels, five star-rated hotels, and Airbnb. We believe that Airbnb targets mainly guests who book extended stays of more than one week. All considered, the impact of Airbnb on the Hong Kong hotel industry should not be overplayed.

30 30 Technology advancement could reduce the need for business travel. Businessmen are now able to interact with each other using virtual alternatives such as video conferencing, which may have profound implications on the business model of five-star hotels in the long term as business travellers are their bread-and-butter clientele. Epidemic diseases could materially impact hotel operations. Severe acute respiratory syndrome (SARS) was a case in point. Occupancy of some hotels in Hong Kong dived to single-digit during the SARS outbreak. More importantly, hotel operators do not have any effective remedial measures if the epidemic disease is prolonged. Hotels are bound to make losses. Geopolitical uncertainty and terrorist attacks could also undermine travel demand and in turn adversely affect hotel operations.

31 31 Appendix Revenue mix Hotels in Hong Kong derive most of their revenue from room and food & beverage businesses. But the revenue mix differs across various categories of hotels. For all hotels, room revenue makes up of c.65% of the total and F&B revenue c.30%. The remainder comes from rental, spa/health club, telephone services, etc. In recent years, the spa/health club business has seen a growing share of revenue. Particularly, income from spa/health club accounts for c.3% of luxury hotels total income. Revenue mix All hotels Source: HK Tourism Board Medium-tariff hotels (three-star hotels) generally derive a higher proportion of income from rooms than other categories of hotels. It is because hotel operators allocate the bulk of space for rooms to maximise revenue as their guests or locals seldom prefer to dine at hotels. Room revenue generally represents 79-80% of total revenue, with F&B making up 16-17%. During the good times in , when hotels are running at high occupancy of >90% - led by an influx of mainland Chinese tourists, room revenue accounted for as much as 85-86% of the total. However, during a market downturn, its share of total revenue could fall to c.72% as hotel operators would be forced to slash the room rate remarkably to maintain the occupancy.

32 32 Revenue mix Medium-tariff Source: HK Tourism Board Revenue mix High-tariff A Source: HK Tourism Board Turning to high-tariff A hotels (five-star hotels), their revenue mix differs substantially from medium-tariff hotels, with F&B being a more important income source. High-tariff A hotels usually contain more restaurants, ballrooms, and function rooms as they are the preferred venues for meetings and conferences as well as wedding banquets. These hotels derive

33 33 c.37-38% of total income from the F&B business. Among top-grade hotels, F&B revenue as a percentage of the total could reach c.45%. Since a proportion of F&B revenue comes from locals, it becomes less dependent on inbound tourism. In general, when inbound tourism weakens, F&B represents a higher income share. Meanwhile, the room business accounts for just c.55-56% of high-tariff A hotels total revenue, the lowest among different categories of hotels. Room and F&B revenue accounted for c.70% and c.25% of high-tariff B hotels (four-star hotels), respectively. Like medium-tariff hotels, room revenue as a percentage of the total was comparatively higher at 73-74% during the market upcycle in , driven by visitation of mainland Chinese tourists. Revenue mix High-tariff B Source: HK Tourism Board Cost Structure Between , departmental expenses and undistributed operating expenses made up c.68% and c.32% of total operating costs, respectively. Room operations and the F&B business were two key cost items, representing c.24% and c.40% of total operating expenses, respectively. Among undistributed operating expenses, administrative and general expenses accounted for c.10% of total operating costs. This is followed by marketing and utility costs, each of which made up c.8% of the total. That said, marketing costs as a percentage of the total remained broadly stable, but utilities accounted for a declining share of total operating costs.

34 34 Cost structure All hotels Source: HK Tourism Board Hotel operations is labour-intensive. Staff cost is the largest expense for Hong Kong hotels. It accounted for c.48% of total operating costs in Due to wage inflation, its share of total operating costs has been rising slightly in recent years. Operating a hotel involves a significant amount of fixed costs which does not depend on occupancy rates. This limits the ability of the hotel operators to respond to market headwinds by containing costs. The resulting high operating leverage leads to relatively high volatility in hotel earnings.

35 35 Payroll as percentage of total All hotels Source: HK Tourism Board Profitability Gross profit margins (GOP margins), before deducting the hotel management fee, which represents some 4% of total revenue, averages 46-47% between High-tariff A hotels generally delivered slightly lower gross profit margins. This is mainly due to lower margins for their F&B business, which made up a larger share of total revenue for these hotels. Meanwhile, medium-tariff hotels offer slightly higher-than-average GOP margins in the high 40s. In good years such as , their GOP margins exceeded 50%. In some efficiently-managed medium-tariff hotels, gross profit margins could be as high as 60+%. Moreover, their GOP margins, albeit slightly better than average, exhibit higher volatility. As their guests are very price-sensitive and hotel accommodation has become more or less a commodity, room revenue, which makes up the bulk of their revenue, are more volatile than other categories of hotels. This leads to greater variance in GOP margins for medium-tariff hotels, which range from low-40s to mid-50s. Medium-tariff hotels derive their income mostly from hotel guests through room revenue, while local customers contribute a meaningful share of high-tariff A hotels F&B revenue. Therefore, medium-tariff hotels revenue suffers more from slackened inbound tourism. Barring any severe economic recession, which reduces locals propensity to spend, high-tariff A hotels should see smaller income volatility. Nonetheless, GOP margins of high-tariff A hotels are generally lower than those hightariff B and medium-tariff hotels. Holding the revenue-decline constant, high-tariff A hotels would see a greater reduction in gross profit due to operating leverage. Moreover,

36 36 medium-tariff A hotels seek minor ways to contain costs during a market downturn. But high-tariff A hotels have to maintain their brands and are therefore unable to cut costs at the expense of their services. These aggravate the impact on profit when there is a decline in revenue during bad times. GOP margin All hotels Sales & Distribution Channels Source: HK Tourism Board In recent years, hotel booking websites have been replacing travel agents as a popular avenue for booking. This evolving trend provides these operators with stronger pricing power than before. It is not uncommon for them to charge over 10% of room rates as commission. In an attempt to incentivise hotel guests to make reservations via their owned website, a growing number of hotel operators, especially international hotel chains, include some value-added features in the room package offered at their website such as complimentary breakfast and WiFi. This could help reduce the reliance on thirdparty websites as a sales & distribution channel. Hotel Management Some hotel owners do not have any expertise in hotel operations. Usually, they secure an international hotel chain to manage and operate their hotels. The hotel manager is responsible for day-to-day operations in accordance with the standard prescribed in the hotel management agreement, which usually has a term of 10 years or longer with an option to extend. In return, the manager receives a hotel management fee, which usually comprises 1) a base fee linked to gross revenue and 2) an incentive fee correlated with

37 37 gross operating profit (GOP) or adjusted GOP, which is defined as the excess of GOP over the hotel management base fee in some cases. Between 2006 and 2015, hotel management fees, including both base and incentive fees, represented % of gross revenue for the Hong Kong hotel industry. In recent years, international hotel chains have become increasingly eager to secure hotelmanagement contracts to boost their profitability. As a result of rising competition, the base fee as a percentage of gross revenue has fallen to 1-2% from 3-4% in some cases. The incentive fee is negotiable, and usually ranges from 3% to 7%. This business model allows hotel owners to ramp up the operations more efficiently by tapping substantial management experience, extensive sales distribution channels, and the well-recognised brands of the hotel managers. However, they are required to comply with the operating standards set by the international hotel brands, which in turn reduces their operational flexibility. Property developers prefer to work with international hotel chains to incorporate esteemed brands into the hotels in their mixed-use developments in prime locations. In addition to providing hotel-management expertise, these renowned international brands also help reinforce the status of these well-located mixed-use projects, making them the preferred choice among the most-sought-after office and retail tenants. This is best illustrated by Four Seasons Hong Kong. This prestigious hotel definitely plays a crucial role in consolidating the leading position of the IFC development. This explains why project partners, SHKP and Henderson Land, decided not to operate the hotel under their brands. The MICE Market Usually MICE visitors plan their visits to Hong Kong a few months before the event. This allows hotel operators to have more clarity on forward bookings. MICE visitors, though low-yielding business travellers, dine at hotels more often than other business or leisure travellers. This helps support the food & beverage operations at the hotels. Between 2008 and 2016, MICE arrivals accounted for 6-7% of total overnight visitors. During this period, MICE arrivals grew at an eight-year CAGR of 6.2% to 1.89m, slightly higher than 5.5% for total overnight visitors. The growth was led mainly by those from mainland China, whose number has more than doubled to 0.97m from the previous year. In 2016, mainland Chinese visitors accounted for >51% of total MICE arrivals, up from 35.5% in Meanwhile, long-haul markets have now less important than before in terms of MICE arrivals and made up 21.4% of the total in Short-haul markets represented 27.5% of total MICE arrivals, down from 2008 s 33.2%. Within the shorthaul markets, South and Southeast Asia outperformed the other regions.

38 38 MICE arrivals overall ( 000 persons) Source: HK Tourism Board MICE arrivals China ( 000 persons) Source: HK Tourism Board Kong Convention & Exhibition Centre is largely running at full capacity, as evidenced by the number of events held. According to a consultant appointed by the government, there will be a shortfall of about 130,000sm of exhibition and convention facilities in Hong Kong during peak periods by New exhibition and convention centres are needed. Otherwise, Hong Kong will lag other Asian cities in growing their MICE sectors. As such, the government has proposed a comprehensive development of Wan Chai Sports Ground for convention and exhibition venues as well as recreation, sports, and community facilities.

39 39 How to Secure Land for Hotel Development Government tender Government tenders remain a key avenue for developers to acquire land for hotel development. Since 2011, the government has sold nine sites which are entirely or partly used for hotel development. Shangri-La Asia s Kerry Hotel on the Hung Hom Harbourfront and Emperor International s hotel in Wan Chai are cases in point. Cheung Kong Property and SHKP are building two hotels on their North Point sites that were acquired via government tenders. In November 2013, Harbour Centre Development, Wharf s 71%-owned listed subsidiary, paid HK$4.4b for The Murray Building in Central. To preserve this historic building, Harbour Centre Development is required to convert, instead of redeveloping, this former government office tower into a hotel. Upon scheduled completion in late 2017, this hotel will be named The Murray, Niccolo with 336 guest rooms. The government is offering a hotel site on the waterfront of Cheung Sha Wan for tender which will close on 27 October. When completed, this hotel project is expected to provide about 550 rooms with GFA of 0.37msf. Urban Renewal Authority The Urban Renewal Authority (URA) awarded the right to redevelop a site in Tai Kok Tsui into a 288-room hotel to a consortium equally owned by Paliburg and Regal Hotels in June The hotel redevelopment is scheduled to be completed in Ocean Park Corporation In May 2014, Ocean Park Corporation awarded the right to Lai Sun Development to develop The Ocean Hotel, situated near the Entry Plaza of the waterfront area at the lowland of Ocean Park, to Lai Sun Development. It will provide 471 guest rooms, with total development cost estimated at c.hk$4.4b. In January 2017, a consortium comprising Sino Land (60%) and Empire Group (40%) was selected as the most preferred proponent in the tender for the development of Hong Kong Ocean Park Fullerton Hotel, to be situated at the site between Po Chong Wan and Tai Shue Wan which is adjacent to the forthcoming Water World. This hotel has a maximum of 460 rooms, with total project cost estimated at c.hk$3b. Hong Kong Airport Authority In February 2017, the Hong Kong Airport Authority awarded Regal Hotels the contract to develop a hotel at the SkyCity integrated development on site A1a at the Hong Kong International Airport (HKIA) in Chek Lap Kok. Covering an area of 71,580sf, the site will be developed into a multi-storey hotel with >1,000 guest rooms and GFA of 362,743sf. It

40 40 is scheduled to be completed in It will be the first stage of the SkyCity development. Located at the north-eastern corner of the airport island near Asia-World Expo, Skypier, and Terminal 2 of the HKIA, the mega-sized project will include hotel, retail, dining, and residential facilities upon full completion. The consideration, which represents a nonrefundable rental payment, is HK$2,189m. The development is expected to cost c. HK$5b. Redevelopment Redevelopment is a key source of new hotel supply as in the case of New World Centre redevelopment. New World Development is constructing this 3msf mixed-use project on the Tsim Sha Tsui waterfront. About one-third of total GFA will be earmarked for hotel use. This hotel will be branded under Rosewood and open for business in Land-use conversion It is common for developers to acquire buildings or land for hotel development through a usage-conversion exercise. For example, SHKP paid land premium of HK$352m, or HK$1,023psf, to convert its industrial site in Siu Lek Yuen (Shatin) for hotel use in This hotel is currently under development and will offer 680 rooms when it opens for business in 1H19. In March 2017, a local investor converted an industrial property at Choi Hung Road for hotel use following the land-premium payment of HK$213m or HK$1250psf. The owner has obtained approval from the Town Planning Board to redevelop the site into a hotel with 483 rooms. In 2009, the government announced the revitalisation scheme of industrial buildings to promote better use of industrial land and premises. Capitalising on the government s revitalisation policy for industrial buildings, Far East Consortium is carrying out the wholesale conversion of the Big Orange Industrial Building in Kwai Chung into a 409- room hotel called Silka Tsuen Wan which targets travellers looking for affordable accommodation. No premium is required for this hotel conversion under this policy since the existing building frame is retained. This hotel held a soft opening in February In practice, it is relatively difficult to convert an industrial building for hotel use, given the constraint of the existing layout. In addition, the deadline for wholesale usage conversion under this scheme has lapsed.

41 DBS Asian Insights 41