Home Inns & Hotels Management Inc. Q4 2008 Earnings Call Transcript

Home Inns & Hotels Management Inc. (HMIN)

Q4 2008 Earnings Call Transcript

March 5, 2009 8:00 pm ET

Executives

Ethan Ruan – IR Manager

David Sun – CEO

May Wu – CFO

Analysts

Paul Keung – Oppenheimer

Chris Woronka – Deutsche Bank

Robert Ju [ph] – Boomway Fund [ph]

Cici Lam – Citigroup

Chris Zee – BNP

Lin He – Morgan Stanley

Marisa Ho – Credit Suisse

Catherine Leung – Citigroup

Hao Hong – Brean Murray, Carret & Co.

Jeff Hu [ph] – Grand River Investments [ph]

Presentation

Operator

Hello and thank you for standing by for Home Inns fourth quarter and full year 2008 earnings conference call. At this time, all participants are in listen only mode. After management’s prepared remarks, there will be a question and answer session. Today’s conference is being recorded; if you have any objections, you may disconnect at this time.

I would now like to turn the meeting over to your host for today’s conference, Ethan Ruan, Home Inns’ Investor Relations Manager. Please proceed, sir.

Ethan Ruan

Hello, everyone, and welcome to our fourth quarter and full year 2008 earnings conference call. Our fourth quarter earnings results were released earlier and are available on the company’s website. With us today are David Sun, our Chief Executive Officer, and May Wu, our Chief Financial Officer, who will be discussing our performance for the past quarter and the year. 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 web cast of this conference call will be available at 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. As you might imagine, 2008 was a challenging year for Home Inns. We are busy with our rapid organic expansion and acquisition and integration while dealing with high cost pressure, intense competition and several anomalies in the operating environment, including natural disasters and Olympics, and most visibly we have been facing the global economy turn down and it's more direct impact on China towards the end of the year.

Regardless of these factors, I am proud to say that the commitment of our employees and their ability to execute our (inaudible) strategies have helped us achieved our revenue and expansion target for the year. We are now the clear leader in the economy hotel industry in China as evidenced by the large number of hotels abroad, yet growing geographical coverage and ever expanding Home Inns member network. It is true that our operations metrics and the bottom line results were negatively impacted during the year by the factors we have outlined in the press release which we May will also discuss later on.

Nevertheless we again generated strong operating cash flow of 356.9 million, up 67% from 2007 level. Although there was still great uncertainties regarding to the economic conditions and the demand for travel in China for 2009, we believe our product continues to be affordable and appealing to the business travelers under the current economic conditions. As we noted in our last call, we recognized the situation in which we are operating and it will be prudent in our expansion strategy and financial planning. However, there is no change in our view regarding to the last growth potential of China's economy hotel industry in the long-term, and our company is well positioned to benefit from this environment.

Although we are proceeding cautiously, we do believe our proven ability to effectively expand is a key differentiator for Home Inns. This ability was again proven by the organic addition of 57 new hotels in the fourth quarter of 2008. As a result, for 2008, we exceeded our goal by opening 205 net new hotels to reach a total of 471 hotels in operation across 94 cities in China. The addition of these new hotels as well as the ramp up of hotels opened the year before resulted in total revenues for the year increasing by over 85% year over year to RMB 1.87 billion with fourth quarter revenues increasing 65% year over year to RMB 539 million amid economic headwinds.

However, while our revenue growth was robust, with this experience, softness across the chain with regard to some key performance metrics. Occupancy rate for our hotel jumped to 84.1% in the fourth quarter of 2008 compared with 88.3% in the same period in 2007 and 85.9% in the previous quarter. For 2008, occupancy was 85% compared with 91.1% in 2007. We experienced declines in occupancy rates due to a number of external pressures including the May 2008 earthquake in Sichuan province, reduced travel surrounding the Beijing Olympics and most recently the overall economic slowdown lead to reduced business travel. There were also internal factors which we addressed, including a slow ramp up of new hotels in the new and low tier cities as well as issues we identified during acquisition integration, which we are already addressing.

The impact of lower tier cities on our results was one we had expected as a result of our continued growth in those target markets. However, the extent was magnified by the economic situation. RevPAR was 141 in the fourth quarter of 2008 and 147 for the full year compared with 155 in the fourth quarter of 2007 and 163 for the full year of 2007. RevPAR was obviously impacted by the occupancy rate, which were lower in 2008 impacted by the factors I just discussed. It was also affected by the lower room rate in lower tier cities which are becoming a large proportion of our hotels. This chain is part of our planned strategy as we believe this market will enjoy robust economic growth in the long run and faced substantially less competition presently. As a matter of fact, when operational environment deteriorated, the impact was less felt in low tier cities.

RevPAR of our hotels which have been in operation for at least 18 months was 173 for the fourth quarter of 2008 compared to 180 for the fourth quarter of 2007. As we have seen in the past, the more established hotels show more resilience amid a soft operational environment but clearly it as still impacted. This is primarily from low occupancy as pricing was generally stable. Although we faced a new set of challenges as 2008 came to a close, I believe that overall, we exceeded our business strategy during the year and delivered solid results in a difficult time. Our expansion plan was successful in opening regions and cities. Building the Home Inn brand will reinforce our leadership position in the economy hotel space. We have maintained adherence to providing a clean, comfortable, convenient and consistent well-managed hotel environment to our guests and have been rewarded by the ever-increasing size of our loyalty member program.

We will continue to face a range of concerns as we enter 2009 as the pressure of the new economic realities face on the enterprise lead to the reduction in business travel. However, we have remained nimble for operations of our size and are actively reaching out to our members and corporate customers in an effort to add more value to that at this difficult time for everyone. While the domestic economy and our operation environment remains uncertain, as we stabilize our growth, and as the cost environment improves, we have seen some relief of operational metrics as well as margin. We remain committed to growth, however, at a pace that balance a benefit of new hotels and geographic coverage with prudent financial stewardship and long-term performance. Our plan to add 130 to 150 new hotels in 2009 with at least half of that – with half of that being franchise and managed quarters. It takes into account our recent event pipeline as well as reflecting these considerations.

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

May Wu

Thank you, David.

I'm going to add a more detail on the figures that David touched upon just now. Please note that all the financial figures I mentioned will be in RMB. Despite achieving our unit growth and revenue target for 2008, during the year we faced financial challenges from both the revenue and costs side. Although we continuously took steps internally to manage and address these challenges, not all of them were within our control or can be dealt with without time left.

Let me share with you some of our financial highlights and offer some details on what drove these results. For the fourth quarter of 2008, Home Inns total revenues were 539.2 million, up 64.6% from same period a year ago. This figure includes revenue of 39 million from the Top Star hotel chain that we acquired in November 2007. Total revenues for the year were 1.87 billion, an increase of 85.4% year over year. Revenues from the Top Star Hotels were 144.9 million for the year. The growth in revenue was due to increase in the number of hotels as a result of organic expansion, the addition of Top Star Hotels for the year 2008 and to a smaller degree the ramp up of hotels opened the year earlier.

This was offset by the lower average RevPAR throughout our hotel chain in the first quarter and full year 2008 which David had discussed and I will discuss further later on. Total revenues for leased and operated quarters for the fourth quarter were 507.4 million as we opened a net of 35 new leased and operated hotels during the fourth quarter. For the year, leased and operated hotels generated 1.77 billion in revenues as we added a net of 131 new leased and operated hotels.

Total revenues from franchise and managed hotels for the fourth quarter was 31.8 million and 99.8 million for the year. We opened a net of 22 new franchise and managed hotels during the fourth quarter and 74 during 2008. Franchised and managed hotel revenues represented 5.9% and 5.3% of total revenues for the fourth quarter and full year, up from 4.6% and 4.6% respectively in 2007.

Along with this growth came an increase in our cost. Total operating costs and expenses without stock-based compensation for the fourth quarter were 481.6 million while total operating expenses without stock-based compensation for 2008 was 1.65 billion. The vast majority of those costs came from our leased and operated hotels which totaled 439.6 million for the fourth quarter or 86.7% of leased and operated hotel revenue. This was an increase compared to the 81.4% in the previous quarter and 80.4% in the fourth quarter of 2007. One of the key factors that caused this increase is the lower RevPAR we experienced in the fourth quarter, particularly due to our planned increased presence in low tier cities and partially due to the overall economic slowdown. Lower RevPAR leads to lower revenue per hotel but the majority of our hotels overall costs are fixed.

For the full year 2008, leased and operated hotels cost without share-based compensation totaled 1.5 billion or 84.6% of leased and operated hotel revenue. That compares with 75.1% in 2007. The large increase for 2008 was caused by the lower RevPAR which we had experienced not only in the fourth quarter but throughout the year for reasons previously discussed, coupled with inflationary pressure on certain costs components, especially utility and rental costs at newly contracted hotels. The large number of hotels under construction and the relatively high rent and utility costs we must recognize when these hotels are under construction had a meaningful negative impact on our cost ratio. This cost was 113.1 million or 6.4% of leased and operated hotel revenues versus in 2008 versus 36.7 million or only 3.8% of leased and operated hotel revenue in 2007.

Our sales and marketing expenses for the fourth quarter were 9.6 million which increased significantly due to the timing of certain marketing activities in the fourth quarter. Marketing activities were reduced during the Olympic period in the third quarter and re-allocated to the seasonally slower fourth quarter. Sales and marketing expenses for 2008 were 27.2 million, representing 1.5% of total revenues and that compares with 1.9% in 2007.

General and administrative expenses without share-based compensation for the fourth quarter was 32.4 million or 6% of total revenue, a decrease from the 8.6% in the fourth quarter of 2007 and 6.5% in the previous quarter. For the year, G&A expenses without share-based compensation were 127.8 million or 6.8% of total revenues versus 7.9% a year ago, a decrease due to our larger revenue base. Income from operations for the quarter excluding share-based compensation were 25.3 million or 4.7% of total revenue. This compared with 7.1% in the same period a year ago. Income from operations for the full year of 2008 excluding share-based compensation were 106.6 million or 5.7% of total revenues compared with 12.5% in 2007. Our margin erosion here is due largely to our reduced RevPAR both due to the macro economic situation and our continued penetration into lower tier market as well as cost pressure as we analyzed previously. These factors were partially offset by increased franchise revenues which had no direct cost and improved SG&A ratio.

While the uncertainties in economic conditions remain, our strategy to expand into lower tier cities will continue. Although we are starting to see some easing of rental utility and other cost pressure, this combined with the relatively more moderate pace of growth compared to historically for Home Inns will benefit our operating margin. We have already seen the evidence of such benefit because although income from operations as a percentage of revenue still decreased in the fourth quarter of 2008, the magnitude of the decrease was substantially reduced compared to previous quarters in 2008.

Adjusted EBITDA for the fourth quarter excluding foreign-exchange gain and losses, share-based compensation and gain from repurchase of our own convertible bonds was 86.1 million. That was an increase of 55.6% from the same period a year ago. The same measure for the year was 311 million, an increase of 43.2% from 2007. Adjusted EBITDA showed much more robust growth compared with growth in our operating income because EBITDA was not affected by the negative impact on depreciation and amortization ratio resulting from lower RevPAR but operating income was. These various items have resulted in Home Inns reporting and adjusted net income for the quarter of 19.5 million and 88.3 million for the full year of 2008. Adjusted diluted earnings per ADS for the fourth quarter and full year 2008 were 54 cents and 2.4 RMB respectively representing eight cents and 35 cents in US dollars respectively.

We had net operating cash flow for the fourth quarter totaling 114.5 million and CapEx expenditure of 262 million of which 232.5 million were cash spent on purchasing of PPE. For the year, we reported a healthy net operating cash flow of 356.9 million and CapEx of 996.4 million of which 828.5 million was cash CapEx spend. During the quarter, we took proactive steps to strengthen our long-term financial situation and reduced our liability cost effectively through the repurchasing of our bonds. We repurchased and retired 219 million of our own convertible bonds maturing in December 2012 which also has non-call and not-put provisions until December of 2010. We realized a gain of 103.3 million for this transaction. After the repurchase, 895.7 million of our convertible bonds remain outstanding. As of December 31, 2008, Home Inns again had a strong cash position with cash and cash equivalents and short-term investments totaling 708.4 million RMB.

Looking now at our guidance for 2009 for the first quarter and full year, first of all, our development plan. Balancing our long-term opportunity with the current economic reality as well as taking into account our existing development pipeline and our balance sheet capability, we're planning to open 130 to 150 new hotels in 2009, including approximately 65 leased and operated hotels and 65 to 85 franchised and managed hotels. We expect majority of our planned leased and operated hotels addition to take place in the first half of the year. While the timing of the franchise and managed hotels can be more unpredictable, we remain committed to growth, however, at a pace that balances the benefit of new hotels and geographic coverage with prudent financial stewardship and long term performance. This expansion plan with at least half of new hotels being franchised and managed hotels reflect these considerations.

Based on this plan and our current expectations from hotels in operation, we expect total revenues in the first quarter of 2009 to be in the range of 490 million to 510 million, representing a 37% to 43% year over year growth, however a slight dip from the fourth quarter of 2008. The sequential decrease is due to seasonal factors because the first quarter included the Chinese New Year holidays during which travel activity were substantially reduced. Historically, this impact of seasonal factor on revenue was offset by the large number of new hotel openings during the fourth quarter. In 2008, however, we achieved a more evenly distributed quarterly hotel opening schedules throughout the year and hence there was no spike in new hotels opening in the fourth quarter.

For the full year of 2009, we expect our total revenue to grow 28% to 33% over 2008. And again, this is based on current development plans, as well as our preliminary expectations from hotels in operations and is subject to change.

David Sun

Thank you, May. As mentioned in our press release, we are taking a cautious expense at this time with regard to our new term development. We plan on maintaining our leadership position in industry and believe we will do so. However, given our ability to adjust our development plan with a lead time of only 4 to 6 months, we do have the flexibility to adapt to changes in the economic conditions. Thank you for attending our call, and we will be happy to answer any of your questions.

Question-and-Answer-Session

Operator

(Operator instructions). Your first question comes from the line of Paul Keung from Oppenheimer. Please proceed.

Paul Keung – Oppenheimer

Hi, David. Hi, May. Hi, Ethan.

David Sun

Hi, Paul.

May Wu

Hi.

Paul Keung – Oppenheimer

Looking at your portfolio right now, roughly what percent of those hotels would you consider to be cash flow positive in the fourth quarter or in the year, or may be asked another way, sort of what stages, how would you segment out your portfolio in terms of what (inaudible) and generating cash flow which is hard to replicate?

May Wu

Hi Paul. For the franchised and managed hotels, first of all, we only generate fee revenue, and for the leased and operated hotels, of the 300 plus leased and operated hotels, 131 were new for 2008. So in other words, over one third of the leased and operated hotels are new hotels. And of the reminder two thirds of the leased and operated hotels, I would say 90% are cash flow positive for the full year as well as for the fourth quarter.

Paul Keung – Oppenheimer

What is your estimate of CapEx for the first quarter and 2009, full year 2009?

May Wu

CapEx for the first quarter will be somewhat similar to what we had in the fourth quarter because as we mentioned, of the approximately 65 new leased and operated hotels that we will open in 2009, a majority of that will open in the first half and actually more get towards the first quarter because those are projects that we contracted and started construction in the second half of 2008. However we expect that CapEx to be substantially reduced in the second half of 2009. And on a full-year basis, if you still take the 65 hotels multiply it by the 6 to 7million per hotel, that is the CapEx to be recognized. However one factor that we need to take into account for 2009 is, in 2008, our recognizes CapEx is actually higher than our actual cash CapEx because of the increase in construction payable that as the number of new leased and operated hotel openings reduced in 2009, the construction payable will go down. So total cash outlay will be slightly higher than the CapEx for 65 hotels because there are some residual pay down for the 2008 openings.

Paul Keung – Oppenheimer

Got it. Okay, all right. Thank you.

Operator

The next question comes from the line of Chris Woronka with Deutsche Bank. Please proceed.

Chris Woronka – Deutsche Bank

Hi David. Hi may.

David Sun

Hi, Chris.

May Wu

Hi, Chris.

Chris Woronka – Deutsche Bank

A couple questions, first, how should we kind of think about RevPAR growth for 2009 or maybe for the first quarter? I think it’s hard to tell based on your earlier guidance exactly what you thinking? I was thinking along the lines of maybe a mid single digit decline for the full-year, is that reasonable based on what you see now?

David Sun

Yes, I think it is – the RevPAR decline, the majority drive by what you call the new hotels opened and also we entered into more low tier cities. So I think as a proportion of what I would call the proportion of the low tier cities come to large base of hotels, we will be carrying to more and more stable for RevPAR. But considering what we would call the economic situation today, so we think it is the single digit, the low single digit decline will be reasonable for 2009.

Chris Woronka – Deutsche Bank

Okay. Great. And then on the expense side, I know things like utilities, you actually delayed effect, so you might benefit there this year from the lower cost but how should we think about things like rents and personnel costs and things like that? Should we basically expect operating margins will decline again but to a lesser degree?

May Wu

Hi, Chris. We think that with personnel costs will stabilized. One factor that contributed to the personnel cost increase in 2008 was largely driven by the increased welfare and benefit programs that was required by the Chinese government. So we would anniversary that in 2009. And other than that, our hotel level as we mentioned, we always have a component of our hotel level personnel compensation based on the hotel profitability, so to that sense, it will be aligned, hotel level personnel cost will be aligned with hotel level performance, and there is no base salary increase for the company for 2009. And also on the SG&A side we expect to continue to leverage on larger revenues side. So personnel costs is well under control.

Rental expenses, as we mentioned, the new hotel contract that signed in 2008 and to a certain degree in late 2007, were at a higher base compared to hotels that we signed in 2004, 2005 and 2006. So these will continue to impact us in 2009 but to a less degree because we will open fewer new hotels in 2009 and starting at the end of 2008 we have been seeing rental stabilization or even decrease from the new contracts. And lastly, utility, we have seen a delayed impact of the decrease in natural resource pricing as the – it’s reflected in utility costs. So currently, it is in the first quarter, it is flat, utility costs will probably be flat year over year, but we envision some benefit from that for the rest of the year. So net-net, we think 2000 – at this time because of the uncertainty in the economic conditions, we are not hundred percent sure of what margin will look like, but we will say that all the cost pressures that we had experienced in 2008, is no longer as challenging as it was, and also that combined with the moderate pace of growth, that will substantially benefit our margins.

Chris Woronka – Deutsche Bank

Okay. And then one final one, are you considering repurchasing additional convertible notes or – how do you think about that right now?

May Wu

If you look at our balance sheet at the end of 2008, we still have 895 million convertible bond outstanding, and we have cash and short-term investments of over 700 million. So and the convertible bond, we need to be planned for a potential put back to us at the end of 2010, so we still have a year and a half-time. We will plan accordingly based on our funding situation, including our potential funding draw down from the local banks. But at this time, there is no immediate plan to purchase additional convertible bond, but we may do that opportunistically in the future.

Chris Woronka – Deutsche Bank

Okay. Very good. Thanks.

Operator

Your next question comes from line of Robert Ju [ph] from Boomway Fund [ph]. Please proceed.

Robert Ju – Boomway Fund

Hello.

May Wu

Hi.

David Sun

Hi.

Robert Ju – Boomway Fund

Hello, May and David.

David Sun

Hi, Ju.

Robert Ju – Boomway Fund

I have two questions. The first is I find that the non-operating income increased a lot in Q4, so I don't know – could I have the detailed items of the other non-operating income and the reason? And the second question is that I found that the way you scheduled to open new H hotel in Hangzhou so will you open more H Hotels in 2009?

May Wu

I will answer the first question and David will answer the question about the H Hotels. Non-operating income was 105 million in the fourth quarter of 2008, including 103.3 million caused by the gain of repurchase of our own convertible bonds. We purchased a principal amount of 290 million of our outstanding convertible bonds with a substantial discount resulting in a gain of 103 million.

David Sun

Okay. To answer your second question, the new H Hotel, that is a new initiative for Home Inns, for our company. The first H Hotel opened in Shanghai in December. So the second one is the franchise and managed hotels we opened in Hangzhou also is a H Hotel. So today we do have – we don't have what you call the period, what we call the development plan to open, schedule to open more H Hotels by a year time.

Robert Ju – Boomway Fund

Okay. And another question and the final one, I find that our occupancy rate is decreased in the Q4, so what did we expect over the Q1 and Q2 in 2009, will the occupancy rate will still more, I mean…

David Sun

I think it is – for the Q4 of 2008, that is mainly we faced what we call the economy slowdown and also the market starts to getting slow down. So the occupancy decreased very deeply from same as 2007. But based on today's I would call experience, in Q1 of 2009, we are slightly – occupancy is still slightly down but is not higher than in Q4 of 2008. For Q2 we have no comment, we have no comment, Q2 of 2009 because it is too early for is.

Robert Ju – Boomway Fund

Okay, thanks.

Operator

The next question comes from the line of Cici Lam from Citigroup. Please proceed.

Cici Lam – Citigroup

Hi, David and May.

David Sun

Hi.

May Wu

Hi.

Cici Lam – Citigroup

Hi. I have a question regarding your hotels under construction and in the pipeline, what is your profit spread of those hotels and also what is the performance of your Top Star Hotels in the fourth quarter and the progress of the modeling and what is your expectation on the RevPAR in 2009?

David Sun

The new hotels we opened, we're trying to open in 2009 is across-the-board in what you call in China. We have really have 400 (inaudible) hotels in 94 cities. So this hotels, the majority is in the existing vertical markets.

Cici Lam – Citigroup

Do you have the spread like in the first or second tier cities like how many hotels in Beijing and Shanghai?

David Sun

We have, majority…

Cici Lam – Citigroup

For the hotels under construction.

David Sun

We have four, five hotels in Shanghai and Beijing, the rest of them are in the second tier cities.

Cici Lam – Citigroup

Okay. Thank you.

May Wu

With regards to the Top Star performance, Top Star Hotels had a RevPAR of 97 in the fourth quarter and although it is still below our expectations but actually that is a substantial improvement from the fourth quarter of 2007 when we first acquired it when it’s RevPAR was in the 60s. We are disappointed by the performance but we think we have a good idea of what the issues are. We have heard from our customers, it is primarily because of the some of the format and design of the hotels that many of them feel that it is not part of Home Inns. So we have already started conversion of the Top Star Hotels and we expect to complete that throughout the year, so Top Star Hotels rooms will look a lot similar to Home Inns rooms all of them by the end of 2009 and we will rebrand all the Top Star Hotels to be Home Inn Hotels by the end of the year. So throughout 2009, we expect Top Star Hotels performance to be stable compared to 2008, and we may have some improvement depending on the economic conditions, but in 2010, we would expect a substantial pickup from those properties.

Cici Lam – Citigroup

Okay. What is the contribution to the bottom line in the fourth quarter?

May Wu

It was still a loss of three or four million RMB.

Cici Lam – Citigroup

Okay. Do you expect a turnaround in the first quarter this year?

May Wu

Our first quarter we expect it to be similar to performance with – first quarter Top Star performance should be similar to those in 2008, but because first quarter is a seasonally slow quarter we do expect a loss from Top Star Hotels. And as you recall, for the entire Home Inn Hotels chain in 2008, first quarter of 2008 was just about a breakeven quarter.

Cici Lam – Citigroup

Okay. And what was the RevPAR for Home Inn brands in the fourth quarter excluding Top Star?

May Wu

Just a second. Let me get back to you, Cici. I have to look at it.

Cici Lam – Citigroup

And my last question, what is the short term, the 100 million short-term investment in the balance sheet that you have in the fourth quarter?

May Wu

The 100 million short-term investment was a RMB product that we purchased from a local bank and with a fixed intended rate of return which is slightly higher than short-term deposits and that amount has already been redeemed and is currently (inaudible).

Cici Lam – Citigroup

Okay. Thank you very much.

May Wu

Your next question comes from the line of Chris Zee from BNP. Please proceed.

Chris Zee – BNP

Hi, David and May.

May Wu

Hi.

David Sun

Hi, Chris.

Chris Zee – BNP

Hi. I just have several quick questions, if I may. Looking at your cash flow, your operating cash flow has been quite healthy, so in the first quarter I see guidance for the top line and your CapEx for the full-year is both down on a year over year basis, so should we assume you to register a positive free cash flow in the first quarter of 2009 because for many quarters at least in 2008 you have been expanding quite quickly and your company was generating negative free cash flow back then? Would that be a good assumption?

May Wu

For 2009, we will probably still have a negative free cash flow because as I mentioned if you look at our balance sheet, there is a large amount of other payables of approximately majority of which is construction payables and as the number of new leased and operated hotels under construction reduce, that payable will also decrease. So again right now we do not have very good visibility for the remainder of the year. So we still expect CapEx including for new construction as well as paying down of existing construction payables, we still expect that to perhaps exceed our operating cash flow.

Chris Zee – BNP

I see. As a follow-up on that, May, can I ask, can you provide us with rough guidance for full-year 2009 CapEx, including the construction payables that you mentioned?

May Wu

As I mentioned, if you take 65 hotels and times by 6 million to 7million per hotel and assume a 75 to 80% of that will be paid out in 2009 with 20% to 25% being the balance payable carry over to 2010, and if you also assume that half of the current construction payable is being paid down, so we still expect cash outflow for 2009 on the investment side to be in the 500 million RMB to 600 million RMB range.

Chris Zee – BNP

Right, okay. And my second question is the 115 you said is for Home Inn, that does not include H Hotel right?

May Wu

In 2009, there is no new H Hotel planned. We opened one in December of 2008 in Shanghai, it is a leased and operated hotel. We opened one in the first quarter of 2009 in Hangzhou, that is a franchised and managed quarter. So these two will our pioneer projects as prototypes which we will operate for a while and decide what our plan for be for this product.

Chris Zee – BNP

How is the initial reception for this?

David Sun

Because we opened – the first one opened in December and also due to the Chinese New Year time but we saw that it is not showing very great we call the in the performance side but we get a lot of feedback from the customers. They are very (inaudible) and also enjoyed our new products. So I think it is our experience to further study and then (inaudible) in the market. And also in the performance wise, if we look at performance, especially after Chinese New Year, is we see a very strong improvement from the H Hotels.

Chris Zee – BNP

Okay. And my last question is what is your effective tax rate right now?

David Sun

The effective tax rate, if you just look at the operating income number for the fourth quarter of 2008, that was a little high actually. It is about 27% and for the full-year it was about 23%, 24%. But that this year it was a little high because of the loss generation from Top Star and other selected hotels which were – whose tax benefit is only realizable on the same hotel basis. Overall going forward, we expect our effective tax rate of our operating income, excluding stock-based compensation and other non-cash gains or losses to be in the 22%, 23% range for 2009.

Chris Zee – BNP

I see. Okay, and that is it for me. Thank you.

Operator

The next question comes from the line of Lin He with Morgan Stanley. Please proceed.

Lin He – Morgan Stanley

Hi, David. Hi, May.

David Sun

Hi.

May Wu

Hi.

Lin He – Morgan Stanley

Hi. I have two quick questions. Firstly, can you remind is out of the roughly 700 million cash balance you have as of the end of 2008, how much cash are in US dollars?

May Wu

Approximately less than 20 million, we had less than US$20 million balance, approximately 20 million which is 120 million RMB in US dollars, and the remainder 500-plus million in RMB.

Lin He – Morgan Stanley

Okay. Thank you. And also can you remind us – on the situation of the credit facility or credit line offered by the banks, have they extended or cut by local banks?

May Wu

The overall funding environment in China is currently quite favorable to business as government encourages banks to lend to creditworthy corporations. And in our case, we are an asset light company and therefore we have already – we always have relationships with the local banks on the revolver basis of which we have drawn down none of the funding that is available to us which is in the 300 million to 400 million RMB range. We think there is potential there is new funding arrangements with the local banks and we will be working on that actively throughout the rest of the year.

Lin He – Morgan Stanley

Okay, I see. Thank you.

Operator

Your next question comes from the line of Marisa Ho with Credit Suisse. Please proceed.

Marisa Ho – Credit Suisse

Good morning David, good morning, May.

David Sun

Good morning Marisa.

May Wu

Hello, Marisa.

Marisa Ho – Credit Suisse

If I'm not mistaken I think you now have a more moderate expansion program in 2009 compared to pre economic crisis, can you talk about the impact of this moderate expansion on your properties in 2009 compared to a scenario you have pushed ahead with the expansion without slowing down the new hotel growth?

May Wu

I would say compared to let’s say now we plan to open 65 leased and operated hotels and 65 to 85 franchised and managed hotels. If the economic condition were better, and if funding is more widely available, we may go with the scenario where we would open let’s say the same number of hotels that we had in 2008. And comparing those two scenarios, the margin will be better if we were to open fewer hotels for sure. However, that will be offset by more conservative assumptions of the performance of existing hotels given the current economic condition. So it is not a pure apples-to-apples comparison, but that is how we would describe it. Does that answer your question?

Marisa Ho – Credit Suisse

Yes, thanks.

Operator

Your next question comes from the line of Catherine Leung with Citigroup. Please proceed.

Catherine Leung – Citigroup

Hi, good morning. I was hoping to get a little bit more color on your RevPAR, you mentioned that the slight decline of the RevPAR was due to a number of factors including the company's expansion into lower tier cities, adding on new hotels, as well as economic reasons. I was hoping if you could break down a little bit more, for the same hotel, what is kind of the average revenue or the average room rate, how is that trending for the same hotel, and are you seeing difference in how the prices are treading between the tier 1 and the tier 2 cities? Thank you.

May Wu

Hi, Catherine. For the same total, as we mentioned, for the fourth quarter of 2008, for hotels that in operations for at least 18 months during the quarter, RevPAR in 2008 was 173 compared to 180 in the same period of 2007. So that is the same hotel, same group of hotels, and that contributed by an average daily rate of 183 this year versus 184 last year, so more or less flat. But occupancy was down from 98.5% a year ago to 94.8% in the fourth quarter of 2008. So that is for the hotels that opened for at least 18 months as of the fourth quarter of 2008 and the comparison of the same group of hotels a year ago.

Catherine Leung – Citigroup

Okay. And are you seeing any difference between the prices on a year-on-year basis between the tier one and the tier two quarters, how the pricing is trending?

David Sun

As a practice, we shall see that is very stable range in third tier cities and second-tier cities and third year cities. We still maintain our price structure same like previous year.

Catherine Leung – Citigroup

Okay. Because I think we observed some pretty (inaudible) from generally your competitors and it doesn't seem to be reflected in kind of the fourth quarter average daily room rate that you mentioned, do you think that we could see potential weakness in the first quarter and for I guess however much visibility you have for the rest of 2009?

David Sun

Yes. I think it is for the pricing in 2008 especially in the first half of 2008 we see the very good performance in the market. So we did raise the price in our companies in select cities. But in 2009, we again reviewed the pricing according to the market and also the economy situation, so we adjust just back the rising pricing part from 2008. So overall in Q1, we see a slightly what you call ADR down compared with 2008.

Catherine Leung – Citigroup

Okay. Thank you.

Operator

Your next question comes from the line of Hao Hong. Please proceed.

Hao Hong – Brean Murray, Carret & Co.

Thank you. Hi, David. Hi, May.

David Sun

Hi.

May Wu

Hi.

Hao Hong – Brean Murray, Carret & Co.

Hi. I missed some of the call, so some of my questions might have been answered but I will ask anyways. Firstly, I heard David saying that you were seeing some relief in operational metrics and margins in the first quarter; I'm wondering whether you could elaborate on that.

May Wu

Hong, what we are saying is we have seen some relief on the cost side starting from late 2008 and that trend is continuing in 2009 and those relief came from pressure on personnel cost, that is no longer as we now anniversaried the implementation of a number of increased government welfare requirements in 2008. So personnel cost has flattened on a unit basis. Also utility cost as oil and gas prices decreased, we are saying utility prices stabilizing on a unit basis and we expect that to actually go down later in the year. So these are the two major components. And also rental expense, rental costs for the new units that we contract, that is also stabilizing, or even decreasing starting in the fourth quarter of 2008. With all that being said, and so on an absolute basis, we're seeing relief on cost pressure, but margin wise, we wills still experience pressure from the lower RevPAR both caused by our high proportion of hotels and lower tier cities as well as the current economic conditions. So this impact will still be felt for us at the current environment. And in terms of new hotel openings, as the new hotel openings will substantially slow down in the second half of 2009, that is when we will see more obvious impact from reduction in pre-opening expenses and as well as pressure from new hotels. But in the first and second quarters, as the construction of hotels that we signed in late 2008 continues, we do not expect much relief at least at the present time yet.

Hao Hong – Brean Murray, Carret & Co.

Right. And what was the cash construction cost for the quarter for your hotel under development?

May Wu

Let me give you the figure for the fourth quarter, in the fourth quarter, throughout the quarter, we had from time to time approximately 55 hotels under construction throughout the quarter and some opened and some came in. And the cash CapEx for the fourth quarter was 230-plus million RMB, and we would expect the first quarter CapEx to be at least similar to that, and with some pay down of the residual payables that are still on the balance sheet at the end of the year, at the end of 2008.

Hao Hong – Brean Murray, Carret & Co.

A couple of questions on the cash flow, I noticed that this quarter your cash flow was very strong, it’s actually doubled – more than doubled from last year’s level, last year you did 49.5 million, but your cash flow, your operating cash flow seems to be growing much faster than your operating income, wondering how you actually managed to achieve that?

May Wu

That actually has always been the case in our company. Operating income, adjusted operating income only increased by about 9% in the fourth quarter, but EBITDA increased almost 50%, and that is because depreciation and amortization is quite heavy in the fourth quarter as will a throughout the year. So adjusted for that EBITDA growth was much stronger than the operating income growth. And then one thing that benefits operating cash flow in addition to EBITDA is also the non-cash rental that was recognized in both operating income and EBITDA. And for the fourth quarter we still had over 30 million RMB for costs for hotels under construction, and those costs, majority of those costs is rental expenses that we need to recognize when we start construction on the hotel. However, typically we do not pay rental until three months or four months later, so those are the factors.

Hao Hong – Brean Murray, Carret & Co.

Okay. So further on your CapEx, on your CapEx trend, I noted that now you are talking about at least half of your new hotels is going to be franchised and you're going 130 to 150 makeshift, so if I use that number, half of 130 to 150, and then I use 7.7 million RMB per hotel, and you also mentioned just now that you're going to pay 75% to 80% of the hotel construction cost in cash in 2009. Now I get the figure cash CapEx of about US$360 million and looking back I see your operating cash flow this year is around that figure and I think next year given what you have just told us, your operating cash flow tends to grow faster than your net income, and I do think that you are going to be free cash flow positive if all these assumption holds, is this…

May Wu

I would say on the CapEx estimate front, you are correct that the new hotels will require about 300 to 400 million RMB cash outlay. In addition to that however, we had large construction payable amount carrying over from 2008, and majority of that will be paid of in 2009, because in 2008, we opened so many leased and operated hotels, so the construction payable amount increased proportionally. So, net-net, we expect investment cash outflow to be in the 500 million to 600 million RMB range. And at this time and because of the uncertainty I think, we're not making very definitive assumptions on the operating cash flow, but you can make some assumptions and do some numbers, but basically the investment cash outflow is expected to be in the 500 million to 600 million range.

Hao Hong – Brean Murray, Carret & Co.

Sure. And also a couple of questions on your tax, the recognized gain on the convertible bond repurchase, you said it is non-taxable, that is non-taxable right?

May Wu

That is correct.

Hao Hong – Brean Murray, Carret & Co.

So I'm looking at you P&L statement, so if I back out that 103.5 million RMB recognized gain and also about 0.6 million ForEx gain, and then I use your cash tax payment whatever that is left, I get a tax rate of about 43%. That is very high. I'm wondering just now you gave a tax rate guidance for 2009 in the low 20s, I'm wondering whether that’s sort of a reasonable assumption going into 2009?

May Wu

We can discuss in detail off-line but the number I have is for effective tax rate to be about – our income from operations, excluding share-based compensation was about 30 – let’s see, we have got a tax rate of about 22% in the fourth quarter, but there are some year end adjustments as well as tax base adjustment. So I will go over that with you after the call.

Hao Hong – Brean Murray, Carret & Co.

Okay. That is great. That is all my questions. Thank you.

Operator

Your next question comes from the line of Jeff Hu [ph], Grand River Investments [ph], please proceed.

Jeff Hu – Grand River Investments

Hi, David; Hi May.

David Sun

Hi, Jeff.

Jeff Hu – Grand River Investments

Can you hear me?

David Sun

Yes.

Jeff Hu – Grand River Investments

I have two questions. The first one is about the CP, how is the company prepared for the CP put option coming in 2010? Do you want to finance debt from local bank or you were experiencing slowdown?

May Wu

Hi, Jeff. As we had mentioned for 2009 we have already reduced our development plan compared to the pace we were in 2008. In 2008, we opened a total of 205 hotels versus 2009. Our current plan is for 130 to 150 quarters and with at least half of that being franchised and managed. So this plan takes into account several things, including the current economic environment, as well as our financial planning. Refinancing is part of normal corporate activity and we do not expect any issues with that. It is just a matter of how and when that given the current economic conditions and the global capital market situation, we are taking a cautious and conservative stance.

Jeff Hu – Grand River Investments

Okay. My second question is in 2008 how much cash flow is from franchised hotels and how much is from leased and operated hotels?

May Wu

For the full-year of 2008, our total revenues from franchised and managed hotels were about 23 million. So that is fairly – that equates to – a majority of that is collected throughout the year. I'm sorry – for 2008, the franchise and managed revenue for year 2008 was 99 million and the majority of that was collected throughout the year.

Unidentified Analyst

May, can you give us some more indication of the funding environment, you said things were getting quite favorable and the government was supportive, do you have anything else you can point out in more detail of what you might expect during this year that might be a positive surprise on the financing side?

May Wu

The government has put into place a number of efforts to make sure that the local enterprises with a good business model, with good creditworthiness do get funding on a reasonable basis when it is needed. So I think overall the policy environment encourages the banks to be more open to potential new arrangements, as I mentioned because we pursue an SMI model, currently our arrangement with the bank we are on a – if we need funding from the local bank, it is mostly on a one-year revolver basis of which we have a large amount available to us which we have not drawn down at all. But we think the banks are more open to discuss longer-term arrangement with us. So we just have to see how that works out.

Unidentified Analyst

But you would expect the financing costs to be lower if that works out?

May Wu

Not so the financing costs, as you know, in China, actually the bank lending rates are fixed by the Central Bank with very limited loading component of flexibility from each bank. So it is not – it is less of the – if we do get funding from the local bank, it is not about the cost, it is about availability. But if we do not get funding from local banks, but through other means, then the cost may be higher.

Unidentified Analyst

In other words, at the moment, you don't draw down on your credit lines because they are only for one year and you worry that when this short time is up, you may not be able to (inaudible) difficult longer, you make different long-term plans?

May Wu

That is one conservation. And two, currently we have not drawn down any of the credit lines. We still have 700 million in cash on balance so we didn't need it.

Unidentified Analyst

Thank you.

Operator

At this time, you have no further questions.

David Sun

Okay. Thank you very much for attending our conference call and we are happy to answer any questions offline and thank you again.

Operator

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a great day.

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