Turkey of the week: hotel group to stay out of

By Paul Hill Jul 31, 2009

Paul Hill

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You'd think the hotel industry was in full-blown recovery judging by the 65% gain in Marriott's share price since March. But this optimism is symptomatic of the latest 'dash to trash' rally.

Last week the group – which operates sites under the Marriott, Ritz-Carlton, Residence Inn and Courtyard brands – not only reported dire second-quarter figures, but predicted more of the same in the second half. For 2009 as a whole, revenue per available room (revpar) is set to dive by 17-20% globally, with occupancy plunging below 70%. That's a major issue for such a fixed-cost-heavy industry.

The resident mix in unfavourable too, with rooms increasingly filled by bargain-hunting tourists rather than expense-driven business travellers. The latter typically pay higher room tariffs and spend more in the bar, restaurant and on meetings.

The crippling trend of aggressive discounting (prices down 14% in the second quarter) shows that desperate hoteliers are ignoring the lessons of 2001, when it took five years to restore room rates. The only respite will come when the jobs picture improves, which is one to two years away at the earliest.

Marriott Hotels (NYSE: MAR), rated a BUY by Soleil Securities

So why have the shares rocketed? Because bulls are convinced corporate travellers (down 18% in the second quarter) will return later this year as global GDP rebounds. Nonsense. Unemployment may be a lagging indicator, but it's rising fast and will soon become a leading indicator too. Why? Because as redundancies rise, banks will be torpedoed by another round of bad debts, hitting capital ratios hard and restricting credit availability again. If I'm right, there's no way companies will be able to return to previous spending on discretionary items such as travel.

The bulls also argue that Marriott derives around 70% of its profits from either managing its branded hotels on behalf of third parties, or licensing its name to franchisees, in theory insulating it from the recession. Sure, this has reduced its operational gearing and thus cushioned it from the worst of the slump. But let's not kid ourselves, this is still a very cyclical industry. With revpar falling, I suspect a number of its freehold investors could go bust, scorching the myth that this is a defensive business model.

That's not all. Airlines are cutting capacity too, meaning fewer tourists and sharply reduced revenues at some of Marriott's most lucrative airport locations. There could be more damage if the swine flu pandemic worsens. Yet after adjusting for net debt of $2.7bn, Marriott's stock trades on 2010 EV/sales and Ebit multiples of 3.3 and 19 respectively. With pricing power only set to return once occupancy recovers, and with extra capacity still coming on stream, this looks a good time to check out.

Recommendation: SELL at $20.30

• Paul Hill also writes a weekly share-tipping newsletter, Precision Guided Investments

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