Home Inns & Hotels Management Q3 2008 Earnings Call Transcript

Home Inns & Hotels Management Inc. (HMIN)

Q3 2008 Earnings Call

November 11, 2008 8:00 pm ET

Executives

Ethan Ruan - Investor Relations Manager

David Sun - Chief Executive Officer

May Wu - Chief Financial Officer

Analysts

David Katz - Oppenheimer

Sam Ching - Turing Capital

Chris Woronka - Deutsche Bank

Manning Dougherty - Oak Tree

Hao Hong - Brean Murray, Carret & Co.

Jeff Smith - Analyst

Zhufeng Wang - Evolution Securities

Presentation

Operator

Hello and thank you for standing by for Home Inns' third quarter 2008 earnings conference call. (Operator Instructions) I would now like to turn the meeting over to your host for today’s conference, Ethan Ruan, Home Inns Investor Relations. Please proceed.

Ethan Ruan

Hello, everyone and welcome to Home Inns' third quarter 2008 earnings conference call. Our third quarter earnings results were released earlier and are available on the company’s website as well as newswire services. Today you will hear from David Sun, our Chief Executive Officer, and Mary Wu, our Chief Financial Officer. After their remarks, David and May will be available to answer your questions.

Before we continue, please note that the discussion today will include forward-looking statements made under the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, our results may be materially different from the views expressed today. A number of potential risks and uncertainties are outlined in our public filings with the SEC. Home Inns does not undertake any obligation to update any forward-looking statements except as required under applicable law. As a reminder, this conference is being recorded. In addition, a webcast of this conference call will be available on Home Inns' investor relations website at english.homeinns.com.

I will now turn the call over to our CEO, David Sun.

David Sun

Hello, everyone and thank you for joining us today for our third quarter 2008 earnings conference call. 2008 continues to present a mix of challenges and opportunities Home Inns as we work on strengthening our position as the leading economy business hotel brand in China.

During the third quarter, we successfully executed on our established business model and once again almost doubled our revenues year-on-year to RMB527.3 million. We opened another 48 new hotels. With these new hotels, we have opened 148 hotels in the first three quarters of 2008, on track to achieving our expansion plan target of 200 new hotels for 2008.

Although we recognize that this is a time for keen awareness of the economic environment, our business is stable and healthy and we continue to believe that a level of sensible expansion is in the best interest of the long-term health of our company.

As part of our business plan, we continued to commit resources in important new markets. The expansion into these new and low tier cities has allowed us to capture new market share, further expand our brand throughout China, and further establish Home Inns as the industry leader.

However, at the cost of being able to charge low room rates and sometimes experience longer ramp-up periods, especially during the period of reducing travel activities, like those we just saw in the past quarter during the Olympics. This, together with some lingering impact of the Sichuan earthquake that took place in the second quarter has resulted in a REVPAR of RMB155 or RMB160 if we only look at our core Home Inns offering. This compares to RMB174 a year ago and a RMB160 in the second quarter of this year.

Our Top Star hotel remains a more [inaudible] of our hotel offering, with REVPAR of the quarter of RMB96, leading to another small loss from the quarter. Although we have seen some recovery in the Sichuan province, this was from the reduced level following the earthquake. Top Star hotels in the rest of the country also displayed great volatility and vulnerability to market conditions. As the overall travel market recovers somewhat in October, Top Star’s REVPAR reached RMB106. To reduce Top Star's dependence on the market condition and to capitalize on Home Inns' strong brand name and large base of loyal customers, based on our customers’ feedback we will be gradually remodeling the Top Star hotels and ultimately rebrand them, which we believe will help improve the performance of Top Star hotels ultimately. We will do so with minimal disruption to business and without substantial capital expenditures.

While Top Star remains slightly problematic, I would like to highlight the consistent success of our more established hotels as an indication of our potential of our new hotels. REVPAR for those hotels which had been in operation for at least 18 months as of July 1, 2008, was RMB193 in the third quarter, compared to REVPAR of RMB189 during the same period of 2007. The lower occupancy nationwide during the Olympics was offset by the high pricing we achieved in Beijing during the same period, largely offset each other, resulting in a neutral impact from the Olympics, as we had expected, as a great number of our hotels will continue to become more established, we should experience more stability and predictability in our business.

While our mature hotels provide stable operating profit and a strong cash flow, we continue to absorb substantial costs associated with rolling out new hotels to expand our business. In addition to the dilution from the hotels that are still ramping up, I do want to stress that while I believe our plans are appropriate due to our consistent return on investment and provide compelling potential for the future.

While we are aware of the global economic situation and its potential impact on all business, while we have not yet seen any significant impact from the recent global finance formula on our business, we are taking a cautious stance at this time of uncertainty and are keeping our corporate plan as agile as possible. As we need four to six months of our leeway to adjust our development commitments, we have already begun to look into such adjustment to ensure our obligations are appropriate for the coming quarters.

It is important to note that our strategy is not to merely open hotels to demonstrate rapid growth; rather, it is achieve long-term leadership and superior return through the prudent and well-planned and execute expansion.

We have followed this strategy and reached our industry leadership position with our strong brand name, broad geographic coverage, and most importantly a large and loyal customer base consisting of over 1 million active members.

I would like to spend a brief moment on a new initiative that we recently undertook, which is our [H] hotels, or [inaudible] in Chinese. The H hotels is a unique, more upscale hotels operated by Home Inns with a more than innovative design to offer customers an exceptional and refreshing business travel experience, we have decided to look into this offering as we believe that the tier one cities are strong targets for such a product, with especially large gaps between the four to five star hotels versus economy hotel pricing, the growing sophistication and the demand for comfort by the domestic business travelers, and the rising real estate price resulting in the need for a high room rates to offset the increasing rental costs and ensure a respectable margin level. The H hotels will focus on a related but not overlapping target segment of business travel and that capture the group from Home Inns' existing customer base who are ready to move up as their career and economic status has advanced. Our first H hotels, which will open in Shanghai in December, we expect this hotel to fill a successful niche in Shanghai and to bring about additional attention to our core Home Inns chain from customers who have previously not paid attention to economy hotel offerings.

However, I would like to clarify that at this point, there are no immediate plans for large scale rollout or expenditure on the development of the H hotels brand. Our main focus on H hotels offering right now is to output the prototyped one successfully and get additional insight and experience in this new product offering. We remain focused on our core Home Inns offering of providing reliable [inaudible] and comfortable lodging at a great value to our customers.

Now I will turn the call over to Mary Wu, our CFO, to walk us through the financials. Mary.

May Wu

Thank you, David. I am now going to add some detail to the figures that David touched upon just now. Please note that all the financial figures I mention will be in RMB. For the third quarter of 2008, Home Inns had total revenue of RMB527.3 million, representing a 98% increase compared to this quarter last year and a 17.7% increase sequentially. This result exceeds our expected revenue of RMB500 million to RMB520 million, due to our success in pushing out the timing of hotel openings during the quarter.

If we remove the impact of Top Star, total revenues were RMB488.3 million, representing an 83.3% increase year over year and a 19.2% sequentially.

Total revenue from leased and operated hotels for the third quarter grew 96.5% from last year to RMB499.4 million, largely due to the net opening of 20 new and leased operated hotels during the third quarter, as well as contribution from those added in the first half of the year that are now reaching stabilization.

Total revenues from franchise and managed hotels in the same quarter were RMB27.9 million, a 129.1% increase year over year, as 28 new franchise and managed hotels opened during the quarter.

Overall, Home Inns reached a total of 291 leased and operated hotels, including 25 Top Star hotels and 123 franchise and managed hotels. Our revenue growth will continue to be driven by our expansion plans coupled with the efforts to maintain steady occupancy in the average room rates.

The number of new hotels in different markets, coupled with the overall reduced travel activity during the Olympic period did lead to our overall occupancy rate in the quarter declining to 85.9%. If we remove the more heavily impacted Top Star, the occupancy rate for the Home Inns hotel chain was 87.7% for the quarter, compared with 95.4% in the same period in 2007 and 90.8% in the previous quarter.

While hotels opening for over 18 months saw occupancy decline from 101% in the same period a year ago to 97%, hotels that are still building a stable customer base, especially those in brand new markets, contributed more to the decline.

While we continue to expect pressure on our operational metrics from new hotels, especially those in new markets, the percentage of these hotels will begin to decline in the coming quarters, which will possibly impact the overall metrics.

The average daily rate for the quarter was stable at 180, at 183 should we exclude Top Star. This compared with 182 in the same period of 2007 and 176 in the previous quarter. We saw the lower room rates in lower tier cities being offset by a higher price for our hotels in Beijing during the Olympics, as well as our ongoing efforts in modest price increases.

The lower occupancy rates and steady ADR lead to REVPAR for the quarter of 155 or 160 without Top Star. This compared with REVPAR of 174 in the same period in 2007 and is flat compared with previous quarters. For hotels in operation for at least 18 months, REVPAR was 193 compared with 189 a year ago, a 2% increase.

Our continued growth in our hotel base, as well investment in new hotel conversion, resulted in total operating costs and expenses for the third quarter of RMB454.3 million. Excluding the impact of Top Star, total operating costs and expenditures without share based compensation for the quarter were RMB405.8 million, or 83.1% of total revenue and that compared to 77.7% in the same quarter of 2007 and 84.6% in the previous quarter. The changes are mainly attributable to the changes in leased and operated hotel costs as a percentage of leased and operated hotel revenue, which I will now go through.

Our leased and operated hotels contribute the majority of the operating costs and expenses and during the third quarter of 2008, these were RMB406.3 million, representing an 81.4% of the leased and operated hotel revenues and excluding the impact of Top Star, total leased and operated hotel costs were RMB365.3 million, representing 79.3% of the leased and operated hotel revenues. That is a slight decline compared to the 80.6% for the previous quarter and an increase from the 71.2% for the same period last year.

Compared to the year ago, part of the decline is due to the lower occupancy rates during the quarter, which we discussed previously, leading to fixed costs becoming a larger percentage of revenue. This is also caused by a combined increase in hotel mix in lower tier markets where certain cost ratios are unfavorable as revenue base is lower due to lower room rates in these cities. The other part of the decline is attributable to the large number of hotels under construction, especially several properties in Shanghai and Beijing with relatively high rent that needed to be absorbed in the past quarter while they underwent construction. The average length of hotels remained under construction in the quarter was also high versus the same period a year ago, as more hotel conversions started in the second quarter of this year.

And lastly, our new H hotels offering also had a short-term impact on our costs for the quarter as a significant percentage of the pre-opening costs for the H hotels has been recognized this quarter. Therefore, costs associated with hotels under construction were RMB13.3 million in the third quarter of 2008, or 6.6% of leased and operated hotels revenue without Top Star, while that was only RMB9.7 million in the same period a year ago, or 3.8% of leased and operated hotel revenues without Top Star, while that was only RMB9.7 million in the same period a year ago, or 3.8% of leased and operated hotel revenues.

Sales and marketing expenses for the third quarter were RMB7.4 million, an increase of 17.5% year over year and a 35.8% increase sequentially. This is the result of some newly implemented advertising marketing initiatives during the quarter as sales and marketing expenses were kept low early in the year.

General and administrative expenses excluding share-based compensation and Top Star were RMB33.8 million, or 6.9% of total revenue, compared with 7.4% of total revenue in the same period of 2007 and 7.4% in the previous quarter. This is in line with our plan.

Home Inns had income from operations for the quarter of RMB41.8 million and removing share-based compensation expenses, this figure was RMB48.4 million. Excluding the impact of Top Star, income from operations without share-based compensation expenses were RMB53.4 million, or 10.9% total revenue, and that compares to 16.4% in the same period of 2007 and 9.5% in the previous quarter.

We are moving into the right direction as we improved margin sequentially. We also achieved a 21.9% increase in operating income year over year despite a number of headwinds.

EBITDA for the quarter was RMB93.5 million, and if we exclude the impact of Top Star, foreign exchange losses, and share-based compensation, adjusted EBITDA was RMB101.4 million, up strongly at 52.3% year over year and 28.9% from the previous quarter.

GAAP net income for the quarter was RMB29.5 million. Adjusted net income excluding foreign exchange losses and share-based compensation for the third quarter was RMB38.4 million, a slight decrease of 3.4% year over year, primarily due to lower interest income and higher interest expenses, as well as amortization costs associated with the convertible bond.

Adjusted basic and diluted earnings per share were $0.54 and $0.51 respectively, and adjusted basic and diluted earnings per ADS were RMB1.08 and RMB1.20, or $0.16 and $0.15 respectively. If we also exclude the impact of Top Star, our adjusted basic and diluted earnings per ADS were RMB1.21 and RMB1.13, or $0.18 and $0.17 respectively.

We continue to be in a strong financial position. As of September 30, 2008, Home Inns had cash and cash equivalents of RMB947.9 million. Although we had convertible bonds of RMB1.1 billion outstanding, we have no obligation to repay these bonds until at least December of 2010 should the CD holders elect to exercise their put option. We have sufficient capital on hand to achieve our business objectives and we have a RMB300 million line of credit for working capital needs, none of which is drawn upon at this time.

We are making progress towards a self-funded growth stage, which will put us in a favorable position should refinancing for the CD is needed in two year’s time. This quarter we again demonstrated strong cash flow generating ability with RMB127.9 million in operating cash flow.

Now let me turn to our guidance for the fourth quarter. Home Inns expects total revenue in the fourth quarter of 2008 to be in the range of RMB535 million to RMB555 million. This will put our full-year revenue increase year over year in the 97% to 99% range, exceeding the 70% to 80% increase we had previously expected in the beginning of the year.

Now I will turn the call back to David for concluding remarks.

David Sun

Thank you, May. As in any business, there are always new challenges we must work to overcome and it is our job to work through these challenges and continue to do our business for the long-term. We are in a solid position to do so right now. As our leadership in the industry continues to strengthen, a mature hotel continues to provide stable revenue, profit, and cash flow, and as our chain continues to expand, the cost of adding new hotels as a percentage of overall revenue is declining. The long-term strategy that we had been implementing over the past quarter is working and the dedicated commitment of our entire team has led to our continued success. I look forward to updating you on our progress in the future.

Ethan Ruan

Thank you. Now we are available to take any of your questions, please.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Chris Woronka with Deutsche Bank. Please proceed. Your next question comes from the line of David Katz with Oppenheimer. Please proceed.

David Katz - Oppenheimer

I wanted to ask about your new brand, which seems to be a bit more upscale than what you have had in the past and if you could just walk us through your thinking on it, talk about what kind of capital you have allocated to it and what kind of expectations overall we should have for it near-term and longer term.

David Sun

First of all, I will answer why we established the new brand. I think that’s really based on what we understand the customer base or market base in this stage, what especially for the existing Home Inns customer who will be moving up due to their personal career development and also their financial situation. Second, because of the raised market price, especially in the first tier cities, rising very rapidly in the past one or two years, so that we do need to have a high room rate product to offset the cost of rental, the rental cost, and also to maintain the margin levels. So that’s the purpose we start to study and also establish our new H hotels at the base.

May Wu

And David, I will talk about our capital spending expenditure plan for the H hotels -- basically as David mentioned, the reason we elect to try out this brand is one that our customers are asking for; two is also to have a more appropriate model so that we can put hotels in prime locations in [inaudible] cities, in first-tier cities. So in terms of the business model, right now we only have one prototype and we will further define it but in general we are looking at double the CapEx, as well as double of the room rates compared to a typical Home Inns hotel, and hence we are looking at similar margin and return investment metrics for our core Home Inns hotels. And as David mentioned, at this time we are focused on operating the first one successfully, getting some additional insights before we decide on the next steps.

David Katz - Oppenheimer

Okay. Thank you very much.

Operator

Your next question comes from the line of Sam Ching with [Turning] Capital. Please proceed.

Sam Ching - Turing Capital

I will ask a question in Chinese for better understand. Please help me to translate.

May Wu

Let me just translate the question -- the question is [inaudible] has indicated recently that they will not expand into third-tier cities. Why is Home Inns' choice continued to penetrate the second-tier and third-tier cities?

The second question is franchise will represent 30% to 50 -- franchise mix will increase from the currently 30% to 50% for new hotel openings for Home Inns -- what is the reason behind that?

David Sun

The first question is I think after we practice in first-tier cities, second-tier cities, and third-tier cities, we believe that first of all, in first-tier cities today, the rental cost is going very, very high. It is not that getting what I would call the profitability into today’s rental base, so that’s -- we are still looking for -- also we are looking for the second-tier cities and the third-tier cities, so the practice, the results showing although the operating margin is getting a little bit of decline but in total of an investment, still give us very attractive total -- what I would call the return on investment in the second tier cities, and also we believe the very premium, what I would call the rental cost today would be further, what we call give us the long-term [inaudible] benefits in our core operation. So that’s our strategy to still keep our focus on the second-tier cities as our main expansion target. But we will not give up any opportunity in the first-tier cities.

Regarding your question about the franchise business, as you know, when we start our business, we always start at least in operated hotels first. We tried to set up the brand and the system, the management team and also the local [inaudible] in the market. After we open more leased and operated hotels in the market, then we start to open up for the franchise business. So for this case is we are able to have more ability to open the franchise business and start from there. And also from the capital investment size [outlook], the benefits for the franchise business is we don’t need to invest any capital on that, so we decided to increase the new hotel's mix for franchise from previously 30% of the franchise to about 45% to 50% in the future.

Sam Ching - Turing Capital

Okay. Thank you.

Operator

Your next question comes from the line of Chris Woronka with Deutsche Bank.

Chris Woronka - Deutsche Bank

A couple of questions -- one on the H hotels, does that involve any conversions of existing hotels you have in Shanghai or Beijing or are these different -- are these new hotels?

David Sun

The H hotels, this one is in Shanghai and previously it’s a hotel but we also are doing the renovation, we are doing the renovation and giving more upscale and also innovative design to [inaudible], so basically it’s [owned] hotel.

May Wu

And I think if your question is will we convert any existing Home Inns hotels to H hotels the answer is right now we have no plans but we do not rule out the possibility.

Chris Woronka - Deutsche Bank

Okay, great. And then on the Top Star conversions to Home Inns, can you give us a sense as to what the CapEx involves? I know you said it would be fairly minimal. Is it kind of the in-room product or the furniture and soft goods? Just kind of an overview of what that involves and maybe just some ballpark costs, if you can.

May Wu

Sure. As you know, for our typical hotels, the majority of the CapEx goes to actually the building improvement, including increasing the water, electricity, capacity, et cetera. The interior represents a small portion of the CapEx and in the case of Top Star remodeling, we will primarily be doing some interior color change and then remodeling the bathrooms to make it more similar to the current Home Inns room, the look and feel of Home Inns rooms, so that will involve just a few thousand RMB per room and we will be doing that gradually. We will not close down any hotels but we will be doing -- working on part of the let’s say 20% of the room in each of the hotels at a time.

Chris Woronka - Deutsche Bank

Okay, great and then a final one is the stimulus package that was announced on Sunday -- do you see -- is there anything new in there in your mind and do the provisions relating to infrastructure build-out, does that kind of help you -- do you see that helping you in any way kind of down the road as you continue to expand into the tier two, tier three markets?

May Wu

The way we look at the stimulus package, it is the Chinese Government’s continued effort in stabilizing and improving the economy. We had already seen some of the methods being put into place in the second half of this year as a result of especially the downturn in the export industry in China earlier this year. For example, more and more small business is getting credit from the banks compared to just six months ago. As we mentioned, right now and even given the global economic downturn and the slow-down in China, we are keeping our eyes open. We are fully aware of the situation but so far we have not experienced any significant impact in our business. So we will continue to monitor the situation closely and we believe that it is the Chinese Government’s commitment to do whatever they can to make sure that the economy is on track and especially giving special consideration to small and medium-sized enterprises, which will be beneficial to our business.

Chris Woronka - Deutsche Bank

Okay. Very good. Thank you.

Operator

Your next question comes from the line of Manning [Dougherty] with Oak Tree.

Manning Dougherty - Oak Tree

Congratulations on a strong result. I have a quick question with regard to average daily rate and vacancy. I wonder if you can talk a little bit about how that may or may not vary by region in China, with a focus on the coastal region, Southern China and maybe the Northeast?

David Sun

I think the occupancy today is overall this year is in the -- in the hotel industry is getting declined because of a lot of reasons -- the earthquake, holiday change, and also the Olympics. So if you pick the region, I think it’s strongly in north China, especially in Beijing. They are running very strong occupancy and it’s also average daily rate. The south sites, like [inaudible], the south sites are running a little bit weak [what we call] the occupancy and also the average daily rate. In the west China, especially this year is a little bit not certain because of the Sichuan earthquake, so in average they will be running about average between Shanghai, between the south, and also south and north.

Manning Dougherty - Oak Tree

To add a little color there, what is the average daily rate in Guangzhou area?

David Sun

Okay, if we say apples-to-apples in the central cities, Guangzhou is running about RMB180 average daily rate but in Beijing, if you [inaudible] in Beijing, that will run you about RMB230 to RMB240 average daily rate.

Manning Dougherty - Oak Tree

And on capacity in Guangzhou versus Beijing, again is it -- how far has vacancy fallen?

May Wu

Actually in Guangzhou, in the central cities the occupancy is quite stable. It’s more of the surrounding areas of Guangzhou that are more heavily impacted by the export industry. The occupancy rate can sometimes be in the 70% range.

Manning Dougherty - Oak Tree

My final question is in those areas, where do you think your break-even occupancy rate is, given sort of an unchanged ADR?

May Wu

We carefully evaluate the profitability of all of our hotels and in general, our break-even occupancy is 65% to 70%, and a recent evaluation actually showed that none of our hotels are in negative EBITDA territory.

Manning Dougherty - Oak Tree

Great. Well, thank you very much.

Operator

Your next question comes from the line of David Katz with Oppenheimer.

David Katz - Oppenheimer

One more quick one -- I wanted to just talk about sort of overall profitability of the hotel portfolio, which in the quarter was a little bit better than what we expected. And I guess the last few quarters, you know, it’s been a bit lower and I don’t know if that’s a function of us getting our expectations [inaudible] or if it’s a function of more franchise hotels being added to the system this quarter, which I assume are incrementally more profitable than the leased and operated. Can you just sort of talk about the profitability of the portfolio in the quarter, please?

May Wu

Sure. The profitability -- when we look at our hotels in terms of hotels over 18 months old and then six to 18 months and then younger than six months, the younger -- overall, as we had always expected, in general hotels over six months old we expect their margins on a combined portfolio basis we expect the margins to be down in the low-single-digits versus a year ago because of the addition of the newer hotels in lower tier cities, as well as in first tier cities that opened later on with higher rent. So that’s precisely what we have seen in the past few quarters. With hotels over six months, that portfolio margin is down in the 3% to 4% range year over year.

And then the remainder of the volatility really comes from the hotels younger than six months and the cost associated with hotels under construction. Now, hotels younger than six months, the overall profitability in the quarter is very unpredictable, given that sometimes one hotel could open in the beginning of the quarter, sometimes it opens at the end of the quarter and that really makes a difference.

So overall, this in the third quarter, this portfolio of hotels did okay, pretty much similar to how they had performed a year ago. So then the remainder -- as the margin was down, operating margin was down about 6% year over year, so 3% to 4% was coming from the mature hotels, due to the mix change, and the other 3% really came from the hotels under construction, whereas pre-opening costs were about RMB13 million, or 6.6% of leased and operated revenue excluding Top Star versus the 3.8% a year ago.

So going -- I think that ratio was even less favorable in the second quarter and worse in the first quarter, so that pretty much contributed to why margin is slightly better in the third quarter and we expect that ratio to continue to improve. As you may recall, last year in the fourth quarter, we had most of the new hotels open and we also had the highest pre-opening costs that we absorbed last year during the fourth quarter.

David Katz - Oppenheimer

Great, and if I can just sort of talk about one comment that you made a couple of times, and maybe it’s the backdrop against -- you know, that we are looking at the world here in the U.S., but I suppose it’s just a bit surprising that you say you haven’t really seen any weakness or any sort of weakness in visibility, given sort of all that we have heard and read and everything else. I guess if you can sort of compare what your outlook is relative to your competitive set, and a little more detail about what you expect in the next few quarters, that would be helpful. Thanks.

David Sun

I think we mentioned before, as [today’s points], we didn’t see a very significant impact by the economy, global economy or the slow-down of the Chinese economy with the impact for our business. But I think it’s for the fourth quarter, we are still very close to looking at the third quarter and the fourth quarter. If we look at the channel, fourth quarter especially for the first months of the fourth quarter, we are still seeing the same trend of the -- same like -- similar like the third quarter. So it’s the majority of our mature hotel still slightly down a little bit in terms of occupancy in the market. So we don’t believe that in today’s position, we want to say that’s a very significant impact for our business, because the majority of our occupancy decline is contributed by the impact by the new hotel, or the hotels into what I would call under six months, the impact by them. But the mature hotels, for the hotels over 18 months, we see a slight decline for the occupancy but in overall, we still feel that’s not that strong impact on that.

May Wu

I think I just want to add on to what David has mentioned -- what we are seeing now is for example in the second quarter and third quarter of this year relative to a year ago our occupancy is down and for mature hotels, for each of the last two quarters, the eighteen months and older hotels, REVPAR was up slightly from a year ago, primarily from price increase and occupancy were down from a very high percentage, let’s say around 100% to let’s say 97%, 98%, so there was a slight down-tick, which we don’t believe is material but overall in the second quarter, the impact was primarily from the earthquake and the third quarter, the occupancy down was primarily from the Olympics. In the fourth quarter, which we believe is the real testing time and see if the economy is doing anything to our business, we are seeing the trend in second and third quarter reversing upward a little bit but still not as strong as a year ago, so that’s what we are seeing now. However, we do not believe this impact is significant and will impact our existing business metrics and plan substantially, so that’s what we are seeing right now.

David Katz - Oppenheimer

Perfect. Thank you very much and nice quarter.

Operator

Your next question comes from the line of Hao Hong.

Hao Hong - Brean Murray, Carret & Co.

I just have three very quick questions. Firstly, what is the maintenance CapEx that is required on your properties?

May Wu

We allocate approximately 2% to 2.5% of our revenue on to maintenance efforts and about half of that goes to -- about half of that is typically expensed and half of that goes to maintenance CapEx. And then that’s -- the maintenance CapEx items typically have a shorter depreciation period, so let’s say about three to five years. Therefore the maintenance CapEx reflected in our depreciation is 30, 40 basis points in terms of our total revenue.

Hao Hong - Brean Murray, Carret & Co.

Okay. And I heard you talk about becoming self-funding and I’m just wondering whether you have a timeframe for that.

May Wu

We have discussed that we have a long-term or intermediate term business plan to reach about 1,000 hotels by the end of 2011. We are on track of doing that and on a base case model, we believe based on some dilution to current metrics, we believe that we will be self-funding by the end of 2010. While if we open just about 200 hotels a year, 180 to 200 hotels a year will get to 1,000 hotels by the end of 2011, so let’s say if we -- and because our return on investment is about 20%, so to be self-funding, as long as our leased and operated hotel unit is growing at about 20%, that’s how we will become self-funding, so by our internal scenario, that should be about by the end of 2010. And of course the near-term plan may be adjusted based on the economic impact and as David mentioned, we can act fairly quickly with only a four- to six-month leeway. But overall we are moving into the same direction that we set out to do.

Hao Hong - Brean Murray, Carret & Co.

Right, and the 180 to 200 new hotels opening each year you mentioned just now is a 50-50 split between leased and operated and franchise hotels, right?

May Wu

That’s correct.

Hao Hong - Brean Murray, Carret & Co.

And also one last one -- what was the Top Star remodeling costs per room that you mentioned just now?

May Wu

We just started this initiative and we are still looking for the right balance but it will be a few thousand RMB per room, and Top Star has about 4,200 rooms.

Hao Hong - Brean Murray, Carret & Co.

Okay. Thank you.

Operator

You have a follow-up question from the line of Chris Woronka with Deutsche Bank.

Chris Woronka - Deutsche Bank

Just one follow-up question -- on the H hotel concept, I presume you are going to start out by managing or by leasing and operating those but over time if you do move forward with more development, is that something that could ultimately be franchised as well or do you think the ultimate size of it is small enough that you keep it leased and operated?

David Sun

I think today we still tested the first one and we tried to put those, the first one prototype successfully and give more experience and insight. We don’t have to immediately [lower our plan for the long-term] but strategically, [inaudible] -- I think that brand hotel will keep more franchise rather than leased and operating.

Chris Woronka - Deutsche Bank

Okay, thanks.

Operator

Your next question comes from the line of Jeff Smith. Please proceed.

Jeff Smith - Analyst

If your convertible debt with the put option in 2010 is put back to you, how do you plan to refinance that?

May Wu

As we mentioned, the convertible bond bond-holders have the option to put back to us at the earliest in December of 2010 and as we mentioned, should that needs to happen by then, based on our current plan, we would have reached a self-funding state where we can, except for the refinancing, we can fund our future growth with internally generated cash flow. And given our strong cash flow, for example, this quarter alone we generated RMB127.9 million in operating cash flow. Last year we generated RMB215 million in operating cash flow, so -- and as our hotel continues, as our chain continues to expand, we will have a larger and larger cash flow base that will allow us to conduct refinance and it will put us in a good position to do so should we need to in 2010.

Jeff Smith - Analyst

Thank you.

Operator

Your next question comes from the line of Zhufeng Wang with Evolution Securities.

Zhufeng Wang - Evolution Securities

Just have a quick question on the Top Star hotels -- it has been a year now since Home Inns acquired Top Stars. [inaudible] still has a long way to go to catch up with the Home Inns hotels. I noticed David said that you are going to rebrand the Top Star hotels into Home Inns hotels. Does that mean additional CapEx or renovation costs to be occurred? That’s one question.

And secondly, you are going to offer a new hotel brand -- does that mean that the Top Star brand will [inaudible] of the new hotel chain? Thanks.

David Sun

For the Top Star, that’s a [inaudible] because I think first of all, the market [inaudible] activity especially in 2008 is getting a little bit of a decline, so that will give us a little bit of a challenge to recover for the Top Star business, but we still keep on that.

And regarding the cost of ramping the Top Star hotels, that we will spend about a few thousand RMB for every room to revamping the Top Star hotels.

For the new hotels --

May Wu

For the H hotels I think is your question, whether we will rebrand any Top Star hotels to H hotels?

Zhufeng Wang - Evolution Securities

I mean, because you are offering a new product to the market, does that mean that Top Star hotels will be removed out of your hotel chain or will you still keep the brand?

May Wu

As we mentioned, we will -- as our customers -- based on our customer feedback, we will be making Top Star hotel rooms more conforming with the Home Inns existing brand and ultimately we will rebrand Top Star hotels to just the Home Inns hotels, and by that time they will no longer -- we decided not to pursue the Top Star brand any further. And the H hotels initiative, the new initiative is separate from that.

Zhufeng Wang - Evolution Securities

Okay, I see. Thank you.

Operator

You have a follow-up question from the line of Sam Ching.

Sam Ching - Turing Capital

My question is from our survey of the five-star hotels, their visiting rates dropped significantly from August or September, that the budget hotels is the [inaudible] occupancy rate. So what do you think of the future trends in the year 2009 and the slow-down and the [inaudible] of traveling cost of the company? Do you think we’ll see more revenue switch from the top tier hotels to budget hotels or the overall industry will be affected?

David Sun

I think you are correct. For the four to five star hotels, their occupancy or the revenue is going down starting from August, I think mainly it’s caused by a global economy, or impact and also the very strict Olympic Visa issue. So I think if the market conditions still keep on this in today’s situation, I think in 2009 the high-end, like four, five-star hotels, still will be impact by the high-end customer reduce. But for the budget hotels, I think we’ll be -- we’ll still haven’t see any what I would call a significant change in the market.

May Wu

And while we will see some -- if the economy slows down substantially, we like any other business may -- will lose some business from the bottom tier, but we will benefit somewhat to offset part of that by also gaining some customers moving down-ward from the higher end hotels.

Sam Ching - Turing Capital

Can you disclose your occupancy rate in the third quarter at [inaudible] and [inaudible]? I heard a lot of bad news there.

David Sun

[inaudible] and what? I don’t have the exact number here but --

May Wu

[inaudible] is in the, like we mentioned, is in surrounding area -- overall near Guangzhou is about 70, [inaudible] is 50 to 60. [inaudible] is pretty normal.

David Sun

Yeah, pretty normal.

Sam Ching - Turing Capital

Okay. Thank you.

Operator

At this time, there are no further questions.

May Wu

Thank you, everyone, for participating in Home Inns' third quarter conference call and we will talk to you again next quarter.

David Sun

Thank you.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect.

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