Can Richard North Revitalize InterContinental? - Investment Outlook - March 2004
Richard North wants to stop the name game and execute on his vision for this 530,000-room giant. But, it is too little, too late?
By Staff -- HOTELS Magazine, 3/1/2004
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| Richard North, CEO, InterContinental Hotels Group. |
Richard North did not like what he saw when he took over the reins as CEO of InterContinental Hotels Group (IHG) in October 2002. “The organization was not working. The arteries were clogged,” he says. Too much capital tied up in real estate and too little accountability were frustrating growth and performance. North’s solution: Cut the real estate commitment; cut costs, overhead and bureaucracy; and cut the cord from parent company, Six Continents, via an April 2003 demerger.
Unconfirmed reports at press time that IHG is placing 15 to 20 of its UK hotels on the block signal North & Co.’s latest efforts to convince shareholders and analysts that they are delivering on their bricks-to-brains promise. The financial community is likely to be in a receptive mood.
IHG’s offloading of London’s US$215 (£115) million May Fair InterContinental last summer and the US$110 million price tag on New York City’s InterContinental Central Park South played a role in reversing the downward profit trends of recent years. Aided by a summer upswing in travel, IHG posted a 6.6% operating profit uptick (in sterling terms) between June and August. If speculation is on target, this spring’s rumored sell-off of Posthouse assets not already converted to the Holiday Inn brand, as well as non-core Holiday Inns, Crowne Plazas and InterContinentals will free up US$380 million (press speculation was £200 million) for redeployment.
How much more real estate IHG will sell is still a moot point. The group cannot help but notice the salubrious effect asset disposal has had on competitors such as Accor, Hilton International, Hyatt Hotels Corp./Hyatt International, Marriott International and Starwood Hotels & Resorts. Although IHG does not share some other brands’ need to pay down debt, it does need to shake off the image of being a corporate step behind the field and find income streams to offset last year’s 13.4% drop in sales.
Unlike rivals who have publicly defined their asset disposal targets, North has been loathe to put a number or a valuation on how much of IHG’s 170-hotel, US$6.4 billion (£3.6 billion) real estate portfolio he will unload. Nor was he forthcoming about future plans during this interview conducted during the Windsor-based company’s first quarter closed period. However, his recent remarks that he could foresee “churning a lot of the bottom 150 assets” suggest the size and scope of the sell-off he envisions as the company transitions to a fee income base.
“I never want to say that we will sell x-number of hotels by a certain date,” says North. “What happens if those deals do not happen? Do we then have to engineer a fire sale to deliver on that? Our plan is to dramatically de-emphasize the use of our capital to drive distribution and sell off a strategic amount of assets. IHG’s future is about franchising and management.” Whatever happens will happen in phases as North has made it clear he “will not dump a huge section of the portfolio onto the market at any one time.”
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Although asset disposal is an obvious course, it is nonetheless a welcome one. Christopher Rouse, senior director, CB Richard Ellis Hotels, London, says even some long-time skeptics are “impressed” by North’s corporate direction—particularly the new “open mindedness” regarding asset sales. “Richard North and CFO Richard Solomons are surprising some observers with the strength of their presentations. The strategy of demerging seems to working for IHG,” says Rouse.
How IHG Will Grow
Asset sales are just one part of North’s capital strategy. To confirm his new vision of a nimbler IHG, North radically reduced the group’s capital expenditure program. In fact, he halved it. The US$640 million (£350 million) capital expenditure budget for this year covers commitments made previously, not the beginnings of a war chest. Too many brands have been burned with high-cost acquisitions that never paid for themselves. Even “easy” deals such as IHG’s US$1.5 billion (£810 million) purchase of the UK’s mid-tier Posthouse brand in 2001 required a lot of attention—and, in the Posthouse deal, three years and US$140 million (£75 million) to bring most of the 79 properties up to Holiday Inn’s standards.
“We took portfolio acquisitions off the agenda. We saw that we were not getting the returns we wanted on those kinds of deals,” says North. “The better strategy was to cut cap ex, review our asset base and use our capital to get the right presence—which is what we did in Hong Kong (where IHG bought and rebranded The Regent as the InterContinental Hong Kong).”
North shares the industry’s current aversion to big-brand deals (Starwood’s long look at Le Méridien Hotels & Resorts notwithstanding). “I cannot foresee many organizations making big acquisitions. While there are synergies, they usually do not warrant the premiums you have to pay,” he says.
IHG will take a closer look at small plays. Its US$15 million acquisition of the Candlewood Suites brand last October from Hospitality Properties Trust (HTP) bought a lot of potential for a minimum capital outlay and delivered a complementary mid-tier extended stay concept to fill a niche below IHG’s Staybridge Suites. IHG not only won 109 hotels and a brand with customer satisfaction awards, but the right to be the licensor for all future hotels and 25-year management contracts for the 76 Candlewoods HTP owns or plans to acquire. To put that in perspective, the Candlewood deal increased IHG’s U.S.-based management portfolio by 30%.
“The Candlewood Suites acquisition is a good example of how we are succeeding in our long-term goals,” says Stevan Porter, IHG’s Atlanta-based president for the Americas. “These are good quality assets that expanded our room and hotel supply share virtually overnight. And, that supply lies within the mid tier, a sector in which we dominate.” North likes the potential of deals like this, especially under current market conditions. “There will be no fire sales. I just do not see good companies in financial distress. The valuations today are right on the money. 2004 will be characterized more by small, strategic deals,” he adds.
The rumor mill has North looking beyond acquisitions to fill some interesting mid-tier niches. Several sources hint that IHG will be rolling out a mid-tier boutique brand. North cannot confirm nor deny the rumor without breaching the limits of the closed period. But, he does propose that major brands need to offer “wide choices” to guests to maximize the synergies of everything from distribution channel management and reservations to loyalty programs and cross-selling initiatives.
IHG would have a lot to prove. Only Starwood’s upscale W has successfully battled the boutiques on their own turf. A mid-tier boutique foray would make IHG a pioneer—an image North might like to cultivate after what detractors perceived as several years of corporate inertia.
IHG’s absence from the timeshare sector also raises some eyebrows. Vacation ownership concepts were the backbone of EBITDA growth for many in IHG’s publicly listed competitive set during the downturn. While timeshare is worth a look, says North, it is hard to make it fit into IHG’s fee-based business model. “We keep looking at timeshare, but it is a very different business. It is part finance and part development. That is not what we do,” he says.
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North’s comments do not close the door on either direction, especially when weighed against his flat denial about suggestions the company is looking at gaming. The rumors should not come as a surprise as the soon-to-be deregulated gaming sector could prove opportunistic for many of the world’s big hospitality players. Hilton International wants in; so does MGM Mirage and others. “Gaming? No. That was the territory for the (former) Bass plc, and they got out,” says North. “You need specialist skills to be in gaming. It is not generally the brands that are succeeding in Las Vegas; it is the purpose-built gaming companies. Our focus is purely on the hotel business.”
Back To Its Roots
To be more specific, IHG’s focus will be back to the tool that built this 3,400-hotel company: franchising. Though management growth is still on the priority list, it is franchising that will drive the numbers. Limited service Holiday Inn Express has 243 hotels in the pipeline in the Americas alone, leading all other brands in its segment. Its future also looks surprisingly bright in Europe. “Europe has a huge resistance to franchising. Holiday Inn Express is the exception. It attracted developers with a new-build concept,” says Trevor Ward, director, TRI Hospitality Consulting, London. He also points out that IHG is one of the few companies other than Accor, Marriott/Whitbread and Carlson Hotels Worldwide/Rezidor SAS Hospitality to take optimize returns from master franchise agreements. “IHG’s relationships with master franchisees such as South Africa’s Southern Sun work because they have clearly aligned objectives,” Ward adds.
Armed with a new full-service balanced prototype that pumps up revenue generating space to 70%, Holiday Inn has 77 hotels coming on line in the Americas. Although most analysts cast Marriott and Hilton as the forces to beat in the U.S. franchise race, it is Holiday Inn that leads all other brand development in the mid-scale with food and beverage segment. It now represents more than 40% of that sector’s active pipeline. The good news for the future is that nearly three-quarters will be new prototype properties.
Staybridge Suites and Candlewood are both doing their part. Staybridge has 50 properties entering the system, while Candlewood closed 11 deals in the two months after its acquisition. IHG’s goals are to double its InterContinental brand presence in the Americas, build on its 47% three-year growth in Asia and continue expansion in Europe.
While these core brands are benefiting from IHG’s corporate product refinements and broader franchisee support services, their growth is hardly surprising. These are solid, established brands that look even better with the backing of stricter quality assurance programs and the roll-out of market-driven, systemwide amenities such as high-speed Internet access across the brands. The better test for North’s creativity will be what happens next with Crowne Plaza and InterContinental Hotels & Resorts.
Crowne Plaza has been a lightning rod for critics. The common complaint is the lack of identity. “No one knows what Crowne Plaza means,” says one source. North bristles at that. It is clearly a charge he has answered before. “Crowne Plaza is the biggest upscale brand in Asia. It is second only to Holiday Inn in China. It has doubled its growth in Mexico,” he says. “By contrast, it is only 4% of our U.S. business. People make assumptions without understanding the actual size of the brand. But, yes, I think there is more we can do with the brand.”
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That “more” is an attempt to make Crowne Plaza synonymous with meetings. Porter contends this a niche no major has filled, and one meeting planners would like to see addressed. Working with results of a survey, Crowne Plaza rolled out a menu of services addressing planners’ priorities, including: an industry first, two-hour response to request for proposals; a single point of contact with a certified meeting specialist, who is a senior level staff member; and a daily debriefing document with updated totals on expenses, including contracted billing, the amount of the budget used to date and estimated final billing. The industry’s jury is still out, but the young concept is getting high marks from customers who ranked Crowne Plaza as the top upscale brand for small meetings and the 14 investors/developers who have Crowne Plazas under way in the Americas.
For InterContinental Hotels & Resorts, IHG is shifting from its company-owned development model to an emphasis on management contracts and selective franchising. The latter puts IHG on a tough track. Although Carlson Hotels Worldwide and Rezidor SAS Hospitality prove the potential of this model, there are far more failed attempts that serve as a warning. “Five-star operations are complex,” says Ward. “To support the rate structure and brand integrity, you have to get it right 100% of the time. Most franchisors are not confident that franchisees will get it right every time.”
Porter counters that “selectivity” will be the key. Franchise opportunities governed by close working relationships and subject to strict performance standards will open the way for doubling the flag’s presence in the United States and Canada over the next decade without diluting the brand, he says. Equally importantly, says Kirk Kinsell, senior vice president of franchising and business development for the Americas, is the appeal of these higher end concepts to new franchisee markets: institutions and third-party managers. Jay Shah, CEO of fast-growing Hersha Hospitality, New Cumberland, Pennsylvania, is just one of the up and comers with “a few IHG brands” in its portfolio.
Problem Solved?
That kind of progress is earning IHG a second look from investors and analysts. How long it will take to erase the image problems of the company formerly known as Holiday Inn Worldwide, Bass Hotels & Resorts, Six Continents Hotels & Resorts and IHG is still at issue. As one source says, “The global strategy seems to be very much about growth through franchising. That is clear. Will corporate do something more strategic? No one is really sure.”
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North responds with an outline of a six-point plan that forms the foundation of the new model IHG. Beyond asset sales and cap ex, North challenged 90 key executives to take US$100 million out of the budget “from every level, every function other than the hotels.” They delivered, but at a price. “Cutting jobs is not great for morale,” says North. “You can explain to people that they are being made redundant because the company has to cut back, not because of performance issues. But all they see is that they are losing their jobs. You can go through all the consultations that the EU requires but it does not mitigate the pain in the process.” Analysts were far happier. Employee numbers for the hotels business was reduced from 35,514 in 2001 to 28,183 in 2002, a 20% reduction.
Talking with North, it is clear that tough decisions are better than no decisions. Changing the corporate culture is one of his passions and to change, North-style, means taking decisions that lead to action. That is music to the ears of restless shareholders and analysts who spent the better part of the last three years challenging (then) Six Continents Hotels & Resorts to get off the sidelines. It also must come as a relief to IHG’s regional development staffs. Sources say too much bureaucracy and centralized decision-making were taking deals off the table. North sees no need for unwanted red tape.
“IHG’s culture now has to be about execution,” says North. “It is the ‘art’ of management: A is action; R is for responsibility—who is going to get it done; and T is for timeliness—when will it get done. It is a message I will keep communicating as long as I am CEO. We have to start thinking more dramatically and acting on that.”
View From Main Street
Analysts like IHG’s new direction, but they want to be shown that this re-invention of the self-proclaimed world’s most global hotel company is going to stick. They also want proof that the momentum spawned by the demerger will not be lost as the organization matures.
While Wall Street and the City may be circumspect, Main Street is buying in. IHG’s quick move to be the first in the hotel industry to offer a lowest Internet rate guarantee (LIRG) program and an improved Web site bring 7 million visitors each month. More importantly, the combination of marketing muscle and ease of use pushed up Internet revenues 50% since the LIRG launch more than a year ago. Being in the forefront on systemwide high-speed Internet and playing a fast game of catch-up with a heavily promoted “sleep zone” experience (more flattery for Starwood’s “Heavenly Bed” concept) are keeping IHG’s brands in the public eye.
Franchisees are also getting the message. Terry Whaples, president and operating partner, Holiday Inn Family Suites, Orlando, said she did consider looking at other brands despite her long-standing relationship with Holiday Inn. “There was a fear factor at one point when we were concerned the hotel group would be sold or taken over,” says Whaples. Porter’s message that the brand was staying put, backed up by renewed commitments to franchisees, kept Whaples and others in the fold.
Why pay franchise fees? Whaples says that on the Internet, the eye still goes to the brand, and Holiday Inn is a strong brand. “They deliver the best yield we get. I’d like to give them 100% of my rooms. I’m looking to Holiday Inn for help with distribution channels,” she says.
While some franchisees may feel the pinch of new programs such as mandated high-speed Internet, Whaples sees these initiatives as reasons to stay with the brand. The US$168,000 investment she will have to make to supply her 800-suite property is a competitive advantage. “IHG has stopped being wishy-washy. They see products consumers want and they deliver it. That’s worth the investment,” she says.
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