Choice Hotels International (CHH)

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Choice Hotels International (NYSE:CHH) is a leading worldwide franchisor of hotels and the nation’s first hotel chain (1941). The company franchises over 5,400 hotels under the Comfort Inn, Comfort Suites, Cambria Suites, Sleep Inn, Mainstay Suites, Quality Inn, Clarion, EconoLodge, Rodeway Inn, and Suburban Extended Stay brands throughout the US and more than 40 countries and territories.^[1]

Choice generates a majority of its revenue from royalty fees, which are based as a percentage of gross room revenue of its franchised hotels.^[2] With a focus on hotel franchising instead of ownership, the company benefits from the economies of scale in the franchising business.

While CHH's brands are predominantly targeted to the middle income customer, it has recently made its first foray into the upscale hotel segment with the Cambria Suites brand, launched in January 2005. CHH faces significant competition from the likes of Starwood Hotels & Resorts Worldwide (HOT), Marriott International (MAR), and Hilton Hotels (HLT) in the upscale segment.

[edit] Business Overview

CHH owns 10 hotel brands that mostly cater to mid-scale leisure or business traveller:

* Clarion and Quality: compete primarily in the full service midscale with food and beverage segment. ^[3]

* Comfort Inn, Comfort Suites, and Sleep Inn: compete primarily in the limited service midscale without food & beverage segment. ^[4]

* MainStay Suites and Suburban Extended Stay Hotel: compete primarily in the extended stay segment. ^[5]

* Econo Lodge and Rodeway Inn: compete primarily in the economy segment. ^[6]

* Cambria Suites: introduced in January 2005, Cambria competes in the upscale segment. ^[7]

CHH 2006 Annual Report^[8]

CHH's business is primarily driven by:

1. The number and relative mix of franchised hotels
2. Occupancy and room rates achieved by the hotels under franchise
3. Royalty rates which the franchises pay

CHH can make more money by increasing the number of franchised properties and the amount their franchisees are charged, without incurring substantially more costs. As of Dec 31st 2006, CHH had 860 franchised hotels with 66,238 rooms under construction.

When hotel owners franchise from CHH, they pay an upfront franchising fee, as well as 4%-6% of annual gross revenue for the life of contract. ^[9] CHH also charges hotel owners fees for providing marketing and reservation support. In return, the franchisees get to use the appropriate CHH brand name, reservation system, loyalty program, and benefit from the marketing which CHH does on their behalf.

Total revenue, driven by an increase in franchising revenue, grew 14% over 2005. Growth in franchising revenues is primarily due to increases in royalty revenues and initial and relicensing fees and other revenues of approximately 13%, 17% and 78%, respectively. Operating income increased nearly 16% from 2005.^[10] Although CHH has an international presence, more than 90% of the firm's revenue comes from domestic hotels.

CHH 2006 Annual Report^[11]

[edit] Trends and Forces

• Economic Conditions: The hotel industry as a whole is vulnerable to economic conditions. An economic downturn would have a negative impact on CHH's revenues. In a down economy, people don't travel as much for business or pleasure, and the people who do travel tend to spend less money. In particular, CHH caters to the lower-middle income customer, who could be especially vulnerable to an economic downturn.

Hotel occupancy decreased during the last economic downswing from 2001 - 2003. Source: CHH 2006 Annual Report^[12]

• Airline Travel: some of CHH's customers travel by air to their hotels. Therefore, CHH’ future profitability is somewhat contingent on the overall health of air travel. Terrorist attacks or disease outbreaks, such as the Avian Flu, could reduce the number of customers willing to travel to their properties. For example, Average Daily Room Rates in US hotels decreased 2.5% after Sept 11th, but have surged nearly 25% between 2003 - 2006, after the US public regained confidence in flying. However, CHH with its lower average room rates, caters mostly towards the drive-to-travel segment. So the company could in fact benefit from an increase in driving as a substitution for leisure flying.

• Online Reservations: the emergence of Internet reservation channels has posed a set of new challenges for mid segment hotels such as CHH. These intermediaries have become the preferred channel for customers and provide a large volume of business to hotels. As a result, they are capable of charging higher commissions and demanding reduced room rates from hotels. This has a negative impact on the profitability of the hotel industry. Moreover, as the customers prefer the Internet reservation channel (instead of looking at the quality of services provided by the hotel), it becomes difficult for hotels such as CHH to form a loyal customer base.

[edit] Market Share

The industry is highly fragmented in the U.S. and no player commands more than 15 percent of the market share. CHH is currently the #2 U.S. hotel brand.

CHH Analyst Presentation, August 2007^[13]

[edit] Competitition

Competition in the industry is generally based on the quality of rooms, restaurants, meeting facilities and services, attractiveness of locations, availability of a global distribution system, price and other factors. CHH's competitors include hotel chains such as Marriott International (MAR), Hilton Hotels (HLT), and Starwood Hotels & Resorts Worldwide (HOT).

The following table compares CHH’s performance to its competitors in 2006.

The key industry standard for measuring hotel-operating performance is revenue per available room (“RevPAR”), which is calculated by multiplying the percentage of occupied rooms by the average daily room rate realized.

[edit] References

1. ↑ CHH 2006 10-k, Pg 1
2. ↑ CHH 2006 10-k, Pg 32
3. ↑ CHH 2006 10-k, Pg 5
4. ↑ CHH 2006 10-k, Pg 5
5. ↑ CHH 2006 10-k, Pg 5
6. ↑ CHH 2006 10-k, Pg 5
7. ↑ CHH 2006 10-k, Pg 5
8. ↑ CHH 2006 10k, Pg 13
9. ↑ CHH 2006 10-k, Pg 14
10. ↑ CHH 2006 10k, Pg 33
11. ↑ CHH 2006 10k
12. ↑ CHH 2006 10k, Pg 4
13. ↑ CHH Investor Relations