Financial Decision-Making for Travel and Tourism
InterContinental Hotels Group Plc
Company Profile:
InterContinental Hotels Group Plc is the largest hotel organisations in the world with presence in over 100 countries. The company was incorporated in 2004 and included many brands. The corporation franchises to and also run for the other hotel owners. The operating divisions of the company include Greater China, Americas, Central, and Europe-Asia-Middle East- Africa. The hotel brands included in the company portfolio are Hotel Indigo, Intercontinental, Crowne Plaza, Hualuxe, Regent hotel and Resorts, Holiday Inn, Vicco, Staybridge Suites, Kimpton, EVEN hotels, and many others. The company had 98,814 room signings in 2018 which is the highest number in a decade. The company franchises hotels and manages for the third-party holders. The fee margins and fee revenues are the basis of revenue streams for the company. The company has been aggressive in pursuing an asset-light strategy which allows it to develop their company while also yielding returns on their investment and capital. The type of new restaurant depends on several factors. The nature of the market and its maturity, the preference of the owner, the brand are considered before deciding whether a hotel would be franchised or managed. For instance, in developed markets like Europe and the US, the company has 90% of its hotels franchised. However, in the emerging markets of Greater China, 91% of the hotels are managed (IHG Plc, 2018).
The revenue stream from the franchised hotels can be better understood by the following diagram. The pictures show that the revenue from franchised hotel consists of the Intercontinental Hotel Group fee revenue, System Fund and the hotel owner. The Intercontinental Hotel Group Fee is what it receives from the room revenue in Intercontinental Hotel Group hotels at a fixed percentage. For the managed hotels, the company generated revenues by applying a fixed rate on the total revenue and the portion of the profit of the hotel. Other than these, there are also several leased or owned hotels for which entire revenue is considered in the statements. The company owned or leased hotels are reduced to only 23 hotels in 2018 (IHG Plc, 2018: 14). For franchised hotels, the company do not take part in the day-to-day operations or in employing; however, the franchised hotels are committed to provide the same level of True hospitality and conduct business responsibly.
Discussion and Recommendation of relevant Sources of Finance for Expansion Plan:
The company Intercontinental Hotels Group is a global multinational British company which has several financing options. The company is expanding aggressively in several markets at the same time. However, the focus point here would be one specific brand: The Kimpton Hotels. The Group has recently doubled the signings on a year-on-year basis and has entered into 14 countries including Tokyo, London, Mexico and Bangkok (IHG Plc, 2018: 7).
The company has planned the expansion of this hotel in 20 new markets including, Paris, Mexico City, Barcelona, Shanghai, and Bali (Kilburn, 2019). This report is going to consider its expansion in Shanghai.
Financing Decisions:
Looking at the financing sources for expansion in Shanghai, Kimpton Hotels has the following sources for income generation. As per the 2018 20 F Reports, the financing options used by the company in the past are.
Unsecured Bank Loans:
These are the borrowings which are classified as non-current with more than 12 months to expire. This includes a five-year $1275 million revolving credit facility maturing date in March 2022: a Revolving credit maturing date in March 2022 of $75 million.
Finance Lease Obligations:
These include the 99-year lease on the InterContinental Boston Hotel of which 87 years remain. The company extends this lease to two additional 20 years period. The interest on this lease is 9.7%. As in 2018, these are valued at a total amount of $235 million.
Bonds:
The company has several bonds at varying rates and maturities. These include;
- £400m 3.875% bonds 2022 initially priced at 98.78% of the face value
- £300m 3.75% bonds 2025 initially priced at 99.014% of the face value
- £350m 2.125% bonds 2026 initially priced at 99.45% of the face value
- €500m 2.125% bonds 2027 initially priced at 99.45% of the face value
Bank Overdrafts:
The bank overdrafts are valued at $104 million. The company uses bank accounts with the same institution under several pooling arrangements with interest payable. These cash pods are utilised by the company to match daily cash management needs (IHG Plc, 2018: 144).
Retained Earnings:
The company can also make use of the retained earrings; however, this can affect the dividend payout to its shareholders. The company reported retained earnings of $951 million in 2018 in its statement of financial position (IHG Plc, 2018). The company has a Capital Expenditure guidance target of Gross $350 million and $150 net annually into the medium term (IHG Plc, 2018).
Equity:
The company has ordinary shares of 197 million with a nominal value of $ 53 million with a premium of $101 million and equity share capital of $154 million (IHG Plc, 2018: 159). The company can use its capital from owners by raising additional capital for expansion.
Expansion of Kimpton in Shanghai:
The source of financing for the expansion of Kimpton in Shanghai depends on several factors including the nature of the ownership of the program (most of Greater China hotels are managed), preference of the owners, and the scale of hotel financing. As per its previous ventures, the company has been used to using cash for its acquisitions. This is evident for its acquisition of Regent Resorts and Six Senses hotels (IHG Plc, 2019; IHG Plc, 2018). However, this cash is usually financed by Bank overdrafts or small term loans from banks. The company has a very strong dividend policy where it distributes stable dividends every year. The company, therefore, would not utilise its retained earnings. The company also has been involved in share consolidation for the last three years, which shows that it will not undergo additional capital raise. The options available are thus, bank overdraft, Bonds, or Bank loans.
Discussion of Behavior of Costs (Graphs and Examples) Importance of CVP Analysis for Short-Term Decision-Making Tool
The CVP Analysis is the study of the relationship between costs, volume and profits. For IHG the volume represents the appropriate level of the activity, or the rooms rented. The CVP Analysis helps in analysing the behavior of costs and profits as compared to change in the level of activity to find the best activity level.
For the CVP Analysis of Kimpton Hotel Expansion Plan in Shanghai, many assumption-based figures are going to be used.
For the CVP Analysis, the variables used are.
Selling Price:
The average daily rate for Kimpton Hotels is $192.16 in 2018 for franchised businesses in the Americas. However, the Greater China service fees are not mentioned as there are not any yet there. Or else, the Greater China average daily rate could be used for the InterContinental Hotel which is $89.79 (IHG Plc, 2018: 181). We are using the Kimpton Hotels rate.
Variable Costs:
The variable costs include the Cost of Sales specifically. The company has 75% costs of sales. This is used as a benchmark for CVP analysis.
Fixed Costs:
The computation for the fixed cost was a hard job. It is difficult to compute it as no such figures are available online. However, we have used some assumptions. For instance, we first found out the total ratio of 1000 rooms of Kimpton to its total Rooms. This was found to be 7.74%. Next, we computed the revenue percentage contributed by Kimpton to Total IHG Revenue. This was found to be 4.74%. This is going to be used as the percentage of the fixed operating costs of Kimpton from total fixed operating costs of IHG. The amount found is $113.63 million. The 7.74% (ratio of 1000 rooms to total Kimpton rooms) of these fixed operating costs is assumed to be the same for the 1000 rooms in Shanghai. However, only 1.2% of this figure will be used (Morning Star, 2018). 1.2% is the revenue contributing to the Kimpton hotels. This is certainly not a good assumption. However, it can give some ideas.
The basis for Assumption of Fixed Operating Costs for Shanghai
| Billions | |
| Total IHG Revenue | $ 27.40 |
| Kimpton Global Revenue | $ 1.30 |
| Kimpton Hotels | 66 |
| Total IHG hotels | 5603 |
| Kimpton Rooms | 12915 |
| Total IHG Rooms | 836541 |
| The ratio of 1000 rooms to Total Kimpton Rooms = 1000/ Total Kimpton Rooms | 7.74% |
| The ratio of Fixed Operating Costs = Kimpton Revenue/Total Revenue | 4.74% |
| Total Fixed Operating Costs (millions) | $ 2,395.00 |
| Kimpton Fixed Operating Costs (millions) = 2395 x 4.74% | $ 113.63 |
| Kimpton Shanghai Fixed Operating Costs (millions) = 113.63 x 7.74% | $ 8.80 |
The analysis showed the following results.
| Projections | ||
| Rooms | 1 | 1000 |
| Selling Price | $ 55,342.08 | $ 55,342,080.00 |
| Cost of Sales | $ 41,548.03 | $ 41,548,031.47 |
| Contribution Margin | $ 13,794.05 | $ 13,794,048.53 |
| Fixed Costs | $ 8,798,403.94 | $ 8,798,403.94 |
| Profit | $ (8,784,609.89) | $ 4,995,644.59 |
| Profit Margin | -15873.29% | 9.03% |
| Break even | 637.8 | rooms |
| Sales Revenue at Break Even Point | 35,299,424.5 | |
The analysis shows that the company needs to have more than 637.8 rooms occupied to earn its profit. For 1000 rooms the projects show the profit margin of 9.03%. Thus, until $8.8 million is recovered, the company is in the loss.
Discussion and Recommendation of Appropriate Pricing Strategies in the Context of Chosen Company
Like any business for travel and tourism, the pricing strategy of this company is also dependent on the financial analysis and marketing strategy. It is true that there is no one right formula for pricing strategy. Generally, the Intercontinental Hotel Group is a premium pricing service provider. It provides services to the customers who are willing to pay higher premiums for the high value and quality of service. The company pricing varies as per its brands. Kimpton hotels provide highly personal service and are used for attracting international markets. Looking at the various average daily rates for the different brands of Intercontinental Hotel Group, it is evident that Kimpton comes under the high pricing hotel brands (IHG Plc, 2018: 181).
There are several factors which are considered before setting up the price. These include the costs of the product, its promotion costs, the nature of the hotel brand, its target market, the hotel image, brand recognition, product life cycle, market life cycle, offered credit period, brand strategy, and its Unique selling points. Kimpton hotels are the high premium brand of Intercontinental Hotel Group Which offers unique personal hoteling experience to its customers. The main markets targeted by this hotel are international. It is recently opened in London, Mexico and other places, however, in the past it was only present in America. For entering in the Shanghai market, it needs to consider the market life cycle, the stage in which it is going to enter, the brand recognition of Intercontinental Hotel Group in China, the promotional budget, and it’s USPs.
There are several pricing strategies which can be used by companies. Intercontinental Group has been using technology to its fullest to have a better pricing strategy. The company is using the price optimisation model and the demand intelligence model to come up with the right price. The model uses linear programming and quadratic probabilities for pricing analytics. This has enabled the company to choose a higher rate at premium pricing for which they are confident as it is suggested by their software (Youtube, 2012).
It has been shown in several studies that even during the recession times; hotel industry witnessed tremendous revenue growth. Studies have shown that the company who opted for high pricing even during the recession times witnessed higher demand. On the contrary, the high pricing hotels slashing their prices due to recession did not witness the same level of demand. This suggests that in terms of the hoteling industry, the high pricing comes with the perception of high value for money by customers. For Asian countries specifically, the low pricing is associated with low quality of service. This shows that the company Intercontinental Hotel Group should focus on having premium pricing for Kimpton hotels in Shanghai as slashing prices would not be associated with good quality of service (Enz, 2012).
Conclusion about Plan
As per the in-depth analysis of Intercontinental Hotel Group, it is shown that the company should look into Bank Overdraft, Bonds, or Bank Loan for the expansion plan of Kimpton Hotel in Shanghai, China. The results of the CVP Analysis show that the company needs to franchise more than 638 rooms for crossing over break even (given that the fixed costs are near the amount assumed). The limitation of this study is the computation for fixed operating costs which can be misleading. The pricing strategy analysis shows that the company should make use of its price optimisation analytics model to price its services at a premium price as it is the unique selling point for Kimpton hotels. The Kimpton hotels are known for their high pricing and premium quality of hotel services. The low pricing can damage this reputation as Asian customer consider low price as associated with low quality of service.
References:
Enz, C. (2012) Cathy Enz – Hotel Pricing Strategy – Cornell Center for Hospitality Research, 29 March, [Online], Available: https://www.youtube.com/watch?v=NY9mX3iGrHI [23 April 2019].
IHG Plc (2018) IHG 20 F Report 2018, [Online], Available: https://last10k.com/sec-filings/ihg/0001193125-19-055722.htm#link_fullReport [23 April 2019].
IHG Plc (2018) IHG completes acquisition of 51% stake in Regent Hotels & Resorts, 2 July, [Online], Available: https://www.ihgplc.com/news-and-media/news-releases/2018/ihg-completes-acquisition-of-stake-in-regent-hotels-and-resorts [23 April 2019].
IHG Plc (2018) Preliminary Results for the year to 31 December 2018, [Online], Available: https://www.ihgplc.com/en/news-and-media/news-releases/2019/preliminary-results-for-the-year-to-31-december-2018 [23 April 2019].
IHG Plc (2019) IHG further expands luxury footprint with acquisition of Six Senses Hotels Resorts Spas, 13 February, [Online], Available: https://www.ihgplc.com/news-and-media/news-releases/2019/ihg-further-expands-luxury-footprint-with-acquisition-of-six-senses-hotels-resorts-spas [23 April 2019].
Kilburn, H. (2019) IHG unveils five-year expansion plan for Kimpton Hotels, 25 January, [Online], Available: https://hoteldesigns.net/industry-news/ihg-unveils-five-year-expansion-plan-for-kimpton-hotels/ [23 April 2019].
Morning Star (2018) InterContinental Hotels Group, [Online], Available: https://financials.morningstar.com/income-statement/is.html?t=0P000002XU&culture=en&ops=clear [23 April 2019].
Youtube (2012) InterContinental Hotels Group – The Price is Right, 11 October, [Online], Available: https://www.youtube.com/watch?v=US-Nw28oimA [23 April 2019].
