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InterContinental Hotels Group PLC (NYSE:IHG)

Q3 2012 Earnings Call

November 6, 2012 4:30 AM ET

Executives

Richard Solomons – CEO

Tom Singer – CFO

Analysts

Vicki Lee – Barclays

Tim Ramskill – Credit Suisse

James Hollins – Investec

James Ainley – Citi

Jamie Rollo – Morgan Stanley

Wyn Ellis – Numis

Tim Barrett – Nomura

Guillaume Rascoussier – Oddo

Matthias Desmarais – Exane BNP Paribas

Operator

Good morning, ladies and gentlemen and welcome to the InterContinental Hotels Third Quarter Results Call. My name is Kay and I’ll be your coordinator for today’s conference. For the duration of the call, you will be on listen-only. However, at the end of the call, you’ll have the opportunity to ask question. (Operator Instructions)

I will now hand to Richard Solomons to begin.

Richard Solomons

Thank you, Kay. Good morning, everybody, and thanks for joining us on our third quarter results conference call. This is Richard Solomons, Chief Executive of IHG and I’m joined by Tom Singer, our CFO. I’ll start by making a few remarks on our third quarter results and the trading environment as we see it today, then Tom and I will be happy to take your questions.

Before I start, though, I’d like to say a few words about Hurricane Sandy. Our thoughts are with all of those who’ve been affected, and I’m relieved to say that our employees and guests are safe and accounted for. We’re very proud of the role our hotels play in supporting their local communities in times of crisis. And we formalized this last year, when we launched our Shelter in a Storm Program, which allows us to provide relief and vital assistance to those affected by a disaster. Through this initiative, we’ll be donating around $80,000 raised by our employees to the Sandy relief effort.

So turning now to our quarter three results, the business performed well in the quarter with resilient trading across all our regions delivering global RevPAR growth of 3.9% and group revenue up 4%. Good use of our scale and the efficiency of our business model converted this into operating profit growth of 14%. These figures are at constant currency and exclude the impact of $6 million of liquidated damages received in quarter three 2011.

Looking at RevPAR performance now in a little more detail. At 3.9% growth, third quarter RevPAR was somewhere below the 6.5% RevPAR growth in the first half. This reflects a number of industry-wide factors, which I’ll cover in more detail in a minute. Nevertheless, our brands do continue to outperform the industry in our largest markets.

The global industry continues to benefit from a favorable balance of supply and demand. Supply growth remains well below historic levels and the industry has broken monthly records for room nights sold for each of the past 18 months.

This favorable dynamic combined with group occupancy just one point below the 2007 Q3 peak enabled us to grow rate by 3.4%, marking our ninth successive quarter of rate growth. Third party forecast has expected favorable supply and demand situation to continue into 2013, although the pace of demand growth is expected to continue to moderate.

In the Americas and the U.S., RevPAR grew 4.6%, driven by rate up 4%. July was negatively impacted by the mid-week timing of the July 4th holiday and in September, RevPAR growth was affected by two Jewish holidays falling within the month, compared to just one last year. We continue to drive share gains in the U.S., with our total RevPAR up 5.7%, more than half a point better than the industry. This data includes the benefit from new hotels and is the more direct comparative for the Smith Travel industry data.

In Greater China, the whole industry experienced significant deceleration in RevPAR growth during the quarter, due to a combination of factors. These include the broader economic slowdown, the territorial island dispute between China and Japan and the greater than expected drop-off in demand ahead of key national holidays and the political leadership change. I’ll talk more about this later.

In spite of these challenges, the strength and scale of our business in Greater China drove 4% RevPAR growth, significantly better than the industry which experienced a 0.5% decline. Revenues grew an impressive 15%, a function of strong brand performance and growth in new rooms, up 11% year-on-year.

In Asia, Middle East and Africa, RevPAR growth of 2.9% reflects the combination of continued strength across much of Southeast Asia, partly offset by the impact of tougher comparatives in Japan and the impact of slowing economic growth in Australia. In the Middle East, several countries continue to be impacted by political unrest, including Lebanon, where travel restrictions were introduced in the quarter. But others, such as Saudi Arabia and the UAE, remained strong.

In Europe, RevPAR was up 2%, in line with the first half trends. UK RevPAR growth of 3.9% reflects strong performance during the Olympic and Paralympic games, broadly balanced out, as expected, by weaker trading in the periods before and after. In Germany, the strong trade fair schedule continued to drive good year-on-year growth, with RevPAR up almost 9%.

Turning now to our financial performance in the quarter, we continue to drive strong operating profit growth across each of our business models. Franchise total revenue and operating profit were both up 8%, driven by a 3.8% RevPAR growth, 2% year-on-year growth in system size and a small increase in effective royalty rates. All these figures are quoted at constant currency.

Underlying revenue in our managed business was flat and operating profit up 9%. This good profit growth was driven primarily by the increase in managed rooms in Greater China, combined with the continuing ramp-up of hotels in that region. In our owned and leased hotels, operational excellence and diligent cost control resulted in 8% revenue growth being converted into 29% operating profit growth. This was driven by a 6.9% RevPAR growth, all due to rate gains, now that these hotels are at 83% absolute occupancy levels.

The scale of our business allows us to drive efficiencies and create capacity to reinvest behind future growth. For the full year, we remain on track to deliver sustainable growth in our fee-based margins. So, looking now to system and pipeline, we’re still driving significant development activity around openings and signings, despite the continued economic uncertainty in many parts of the world. We’ve grown our net system size by 2.1% year-to-date, and are well on track to meet our 2% to 3% guidance for the full year.

We opened 8,600 rooms in the quarter, removed 3,200 rooms and signed a further 13,300 into our development pipeline. To put this into perspective, this means that we’ve signed on average some six hotels every week so far this year, further building on our strong foundation for growth. Our brands are gaining traction, building our presence in markets such as Bahrain and Qatar, where Holiday Inn Express and Crowne Plaza made their respective brand debuts during the quarter.

We’re also entering new markets, with Holiday Inn Express becoming the first signing for IHG in the Bahamas. Conversions continued to account for around 30% of our signings and openings. In fact, just yesterday, we announced that three hotels in the UK have converted from Hampton by Hilton to Holiday Inn Express, demonstrating the attractiveness of our brands to owners.

There is significant demand for our newest brands, too, with eight signings in the quarter for HUALUXE Hotels & Resorts, our new brand for Chinese consumers. This means that in the six months since launching the brand, we signed 12 hotels into our development pipeline and have a further 14 letters of intent in place. In October, we signed up the first hotel under our new U.S. brand, EVEN Hotels. This is a new build project in Manhattan which is due to open at the end of 2014, and will operate under a management contract with a small guarantee in place, but no capital investment from IHG. We’re also in ongoing discussions around a number of other projects for the EVEN brand, which we’re very excited about.

Our pipeline continues to be of the highest quality, with around 40% under construction and we estimate around 70% financed. Over 30% of our pipeline is in Greater China and around two-thirds of these rooms are under construction. We continue to work with the best owners and there have been no significant hold-ups to projects since the handful of slight delays we reported at Q1. Our robust pipeline of 51,000 rooms, combined with the 60,000 rooms we already have open in the region, gives us significant confidence in our future growth and an extensive distribution unrivaled by any of our global peers.

Looking elsewhere around the world, the financing for new hotel construction does remain constrained in some of our biggest markets. However, we’ve started to see a very slight improvement in financing for certain projects. But this will take some time to translate through to any meaningful growth in industry supply. This low supply growth, combined with the record levels of demand I referred to before, will continue to be supportive for RevPAR. And with 13% of the active global pipeline, compared to our 5% of open rooms, we will continue to win market share.

So, moving on to the balance sheet, net debt at the end of September stands at $472 million, down $172 million on quarter three last year and down $66 million on the year-end position. Obviously, this does not reflect the $500 million special dividend we paid on 22nd of October. We remain committed to our stated three uses of cash: investing in growth, a sustainable ordinary dividend, and from time to time, returning surplus capital to our shareholders.

At our half year results, in addition to the special dividend I just mentioned, we also announced a $500 million share buyback program, which we expect to commence shortly. We’ve talked on several occasions about our strategy to invest behind the growth of our brands, existing and new, generally funded through recycled capital. Year-to-date, our gross capital expenditure is only $10 million. We now expect to spend around $25 million in the full year. We still see substantial growth in value-creating opportunities for the business, but this type of spend is unpredictable by nature, especially as we are generally investing alongside third parties.

We continue to guide for around $100 million to $200 million of growth capital expenditure in 2013, with good progress on existing projects and a number of anticipated opportunities ahead. Key items of spend will include up to $150 million over three years, behind the launch of EVEN Hotels in the U.S. We will also continue to invest behind existing brands, such as Crowne Plaza in the Americas and the launch of Holiday Inn Express India with our joint venture partner, Duet. The first of these hotels under this partnership is scheduled to open in Ahmedabad before the end of the month.

Turning to maintenance capital expenditure, we now expect this to total around $125 million in the full year with $69 million spent year-to-date. Looking forward into 2013, our guidance is unchanged at around $150 million, as we make further investments in our IT systems and our owned hotels.

Finally, a quick update on InterContinental New York Barclay. Discussions regarding the disposal of this hotel continue, but are no longer exclusive and will now be opened up to a wider group of prospective buyers. Over the course of 2012, the property market in New York has, in fact, strengthened and we’re confident that we are in a good position to extract maximum value for shareholders. We will update you as and when we have more news.

I’ve said on many occasions that in order for us to consider selling a major asset in a key city, we must have alternative representation with the brand or be certain that we will retain our flag over the asset with a management contract in place. InterContinental Westminster London is scheduled to open at the end of the month and so we will start to market InterContinental Park Lane in 2013.

So turning now to current trading and outlook. Softer performance in the third quarter was driven by a combination of events, including timing effects, but also some factors which will continue to impact trading into Q4. Provisional October group RevPAR growth of 4.8% indicates some improvement from the Q3 trend. In the Americas, RevPAR growth of 6.1% reflects a return to more normal underlying levels of trading after the noise around timing of holidays in Q3.

However, there does remain a level of political and economic uncertainty going in today’s election in the U.S., which should improve, once there’s greater clarity on future economic policy and the upcoming fiscal cliff. In Europe and Asia, Middle East and Africa, October RevPAR growth of 2.3% and 3.4% respectively indicates that trends in the third quarter have continued. In Greater China, 0.3% RevPAR growth in October represents a slight improvement from the 0.9% decline in September but reflects the ongoing industry-wide softness in demand due to a number of factors, which I’ll talk about now in a bit more detail.

Through September and October, many businesses have suffered from the slowdown in manufacturing and the escalation of the dispute over the ownership of the Senkaku/Diaoyu islands. We’ve seen a significant reduction in the number of Japanese guests in our hotels in China, and although that was a small proportion of our total business, this is more meaningful for our InterContinental Hotel in Hong Kong. We’re hopeful that the impacts of this dispute of businesses is now softening, but there can be no certainty of this until tensions between China and Japan lessen.

On a more positive note, last week’s official Purchasing Managers Index data for China indicates the return to growth for the manufacturing sector. China’s political leadership change continues to impact the domestic business climate. We expect that some confidence will return, now that the 18th National Party Congress has been scheduled to start on the 8th of November. However, it’s unlikely that we will see a return to normal levels of trading until after the new president and premier are formally selected at the National People’s Congress in March of next year. We do believe that these pressures in China are short-term headwinds, impacting the whole industry. And we remained positive about the underlying demand environment in the region.

Looking forward, leading indicators remain positive. Booking pace is up for the group as a whole, with increases in both rooms on the books and rate for the rest of the year. Our forward visibility, of course, remains short, so this only represents a portion of the total rooms we expected to sell.

Future travel intentions data collected from guests staying in our hotels in the quarter remained strong. 60% of guests are saying they will travel in the same amount or more over the next 12 months for business and this statistic rises to more than 80% for leisure.

Despite some of the short-term uncertainties in the global economy at the moment, in the long term, our industry will continue to benefit from the positive population and demographic trends driving demand for hotel rooms around the world. You’ve heard me reference the considerable strength of IHG’s business on several occasions before. Our resilient fee-based business model, together with preferred brands, our wide geographic footprint and our focused strategy for high-quality growth give us confidence we will continue to outperform.

So, thank you. With that, Tom and I will now be more than happy to take your questions. So, Kay, can we open the call up to questions, please?

Question-and-Answer Session

Operator

Of course. (Operator Instructions) The first question comes via Vicki Lee from Barclays. Please go ahead.

Vicki Lee – Barclays

Good morning, just have three questions. Firstly, are you still happy with the guidance of 1% RevPAR falling through to about $13 million of annual EBIT contribution? Obviously the drop-through in Q3, it was a bit ahead of that, I guess, driven by the rate growth. But just curious about how you see that into next year?

Second one on asset sales, obviously, your commentary around the planned London sale next year, could you just update us on your thinking around Paris and Hong Kong? And then finally, in terms of growth CapEx, I see that you’re obviously now guiding to $25 million for this year and sticking with the $100 million to $200 million next year. Just curious about the reason for the lower growth CapEx this year and, similarly, your confidence behind the $100 million to $200 million for 2013?

Richard Solomons

Okay, Vicki, morning. Thanks for that. So, look on the asset sales, yes, absolutely, we’re obviously opening up the Barclay and we’re confident about where we’ll get to on that and looking to move on Barclay next year. I think our position on assets still remains unchanged, that clearly over time, we’ll look to be selling these assets, but we need to make a call on the right economic time and the right time in the market and obviously, also, as I mentioned again, additional representation. So, I think we’ll get on with New York and London and we’ll worry about the rest a little bit further down the road.

Tom, do you want to just take the other two questions?

Tom Singer

Sure. Good morning, Vicki. In terms of the conversion of RevPAR into EBIT, the 1% still equates to $13 million of EBIT, but that tends to only work on an annual basis, not in a quarter-by-quarter basis. So you have to think about it for the full year, not on a quarterly basis if you want to adjust your model.

And in terms of growth CapEx, the reason that we’ve underspent relative to our previous guidance is really because a number of the projects that we intend to invest behind, be they the development of EVEN Hotels or investing through our joint venture structures in places like India, the timing of that is not wholly within our control. So, some of that spend just slipped into 2013. But we do reiterate our guidance for 2013 of growth CapEx between $100 million and $200 million and maintenance CapEx at the $150 million level.

Vicki Lee – Barclays

Okay, thanks very much.

Operator

Your next question comes from the line of Tim from Credit Suisse. Please go ahead.

Tim Ramskill – Credit Suisse

Thanks, good morning. Tim Ramskill from Credit Suisse. I’ve got three questions. Morning, guys. Three questions, please. Just on the Barclay, could you just tell us whether you’ve – I guess it’s probably an opportune sort of time to think about whether you’d keep it and spend the money yourself in terms of refurbishments? Has that been given consideration to? Secondly, on Greater China, the data I’ve seen for October looks very negative, market data down more than double digit. But what I’m most interested in within that, it seems to be all rate-driven, which is slightly concerning. So I just wonder if you could comment on that.

And then finally, just with regards to the sort of development in the marketplace of the OTAs and how their impacting your business, I just wonder if you could talk to us a little bit about strategically how you are addressing that and specifically, how much progress you feel the Room Key program that you’ve put in place, that sort of vehicle, how that’s progressing, if that’s really working for you guys?

Richard Solomons

Okay, well, let me take the second, Tim, and I’ll ask Tom just to talk to you a bit about the Barclay. So, look, as far as Greater China is concerned, I think even more so than in almost any other time, you can’t really look month-by-month and take a view. And I think I talked a bit about some of the real pressures that are going on there in the short-term around the dispute with Japan. But also, don’t underestimate this political change, because it’s something clearly that happens every 10 years or so. But the linkage between business and government in China is very, very different to what it is in pretty much any other market. And so, there is just a big impact on decision-making and the way things happen while we’ve got this change in leadership.

So as we look at the medium to long term, we’ve generally remained very, very positive. And if you look at the forecast for GDP growth, it’s still in the 7% and 8% growth range, very major infrastructure investment, and also, just the strength of our business there, we remain very positive. And even in quarter three, with 4% RevPAR growth, we grew our revenues by 15% in China.

So I think the overall picture remains very positive and we’re certainly not seeing any undue rate pressure. It’s all – and naturally we’ve seen rate growth right through, including September. So, that’s our position in China. You will see winners and losers. You will see industries that are winners and losers, but I certainly think we’re in a very strong position there.

And as far as the OTAs are concerned, we can talk a lot about that, but just to give you the headlines. The Internet business overall has grown very significantly for us and we’re now at about 25% of our total revenues is running through that, the vast majority of which is our own websites, so that’s obviously the most effective for us in terms of relationship with our guests, and most effective and cost-effective for our owners. So that will continue to be the case.

The OTAs is a proportion of that and our position has always been very clear with these online travel agencies, Expedia and Priceline and the others, which is where they’re driving good incremental business at a sensible cost to our owners, we’re very keen to do business with them and they remain sizable from that perspective.

But it’s still more cost-effective for our owners and for our customers to come direct, if they can, and that’s what we encourage through continuing to improve our websites, particularly on the mobile front, actually. We’ve seen a very big increase in bookings from the mobile front from year ago to well over $100 million annualized and getting on to $200 million now annualized, which is how people want to book.

And then lastly, you mentioned Room Key, which is effectively the venture company between most of the big hotel companies. That’s actually had a good start. It’s still very small in terms of total bookings, but I think it makes a point that what customers want is more alternatives and more channels available to them, where they have a full sort of gamut of brands. And so, I think that’s been a good start for us and we’ll see how that evolves. But it certainly, I think, makes it clear that there are further opportunities there and therefore, we have the opportunity to look at our overall relationship with the OTAs generally. So, not really a lot new there, I think, in terms of the direction of travel.

Tim Ramskill – Credit Suisse

Have you put much investment into that Room Key JV?

Richard Solomons

No, it’s a few million dollars, it’s under $10 million. So it’s not that material. Tom, do you want to pick up on the Barclay then?

Tom Singer

Yeah. On the Barclay, obviously, the transaction has been dragging on now for longer than we would’ve liked. And given the fact that, firstly, the New York hotel real estate market has continued to improve over the last 12 months, and because we continue to receive unsolicited expressions of interest in the assets, we have decided to open up discussions now to a wider group of potential purchasers.

The hotel itself actually continues to trade well on a year-to-date basis. RevPAR for the Barclay was up 3.5% and we will now look to complete a transaction around the Barclay in 2013. In the interim, we might have to put in a small amount of CapEx, but we’re only talking single-digit millions in terms of doing a central maintenance CapEx on the assets. But we do remain committed to selling it.

Tim Ramskill – Credit Suisse

Okay. Thanks a lot.

Operator

Thank you. Our next question comes from the line of James Hollins from Investec. Please go ahead.

James Hollins – Investec

Hi, good morning. It’s three from me, if I may. The first one is on EVEN. I believe that the one in New York City, you’ve announced a management contract. Could we – should we consider that as something of a one-off, getting a management contract, or do you think there’s more to come, i.e., less capital from you guys? The second is on Europe trading in October, up 2.3%. Can you give us just a bit more detail on how that’s going in London and any other sort of key trends across Europe?

And the third one is on October in the U.S., up 6%. What’s the underlying number if you take out, I think Europe against Yom Kippur, the Jewish holiday in United States, is it sort of 6% a good trend to take forward? I know you don’t like talking about months, but is it actually slightly less if you take out that holiday?

Richard Solomons

Okay. Thanks, James. So, as far as the EVEN is concerned, no, I think we’re highly likely to sign up more management contracts and even when we put capital in, if we don’t own it outright, only if it’s a joint venture or a sliver equity, we’d expect to have a management contract. We will quite quickly move into franchising as well. So, I think you should look at EVEN as exactly the normal business model that we follow. But we will see some of the early growth with our own capital. And we’ll see how that goes. But that’s the plan and we’ve got a number of opportunities we are looking at.

As far as Europe trading in October, no, we don’t break it down more than, because there still provisional numbers. So, I think – don’t think we can give you any more color in October. Tom, do you want to pick up just the U.S. question?

Tom Singer

Yes, so, obviously, October was a good month for us. And hard to know how the rest of the year will play out. Obviously, we’ve got the election today and we’ll have to see what happens in the States in terms of how the economic environment responds and the actions that are taken to address the fiscal cliff issue. In terms of the sort of – to help you a little bit with some of the trend analysis, if we look at the impact in Q3, from the timing of the 4th of July holiday falling in the mid-week and the Jewish holidays, we expect that those things probably in the aggregate impacted RevPAR by around one percentage point, so the underlying trend was probably closer to 5.6% rather than 4.6% in Q3.

Richard Solomons

Yes. So, 6.1% in October...

Tom Singer

Yes.

Richard Solomons

So, this gets us back on track with pretty solid performance there.

James Hollins – Investec

Okay, can I just follow – actually, I had one more. What sort of level of interest have you had already in the InterCon Park Lane or are you sort of purposely resisting any outside interest in purchasing that asset?

Richard Solomons

No, we’re not looking for outside interest and with all of these assets, there’s always people popping up and of course, the minute we announce that it’s going to be the next asset, one of the benefits of that is then we get a lot of people contacting us. So, a good level of interest, it’s a great asset and a great location with a very strong brand and good performance in a market that is – London is one of the megacities of the world. So, not surprising, a lot of interest and we will find the right partner with the right value.

So, thank you for that.

James Hollins – Investec

Great. Thanks.

Operator

Thank you. Your next question comes from the line of James from Citi. Please go ahead.

James Ainley – Citi

Yes, good morning, guys. Three questions.

Richard Solomons

Hi, James.

James Ainley – Citi

Please? Hi. Firstly, when you talked about lower CapEx this year, but holding your guidance for CapEx next year, should we think of this as a permanent reduction in your growth plan or is this spend that will then be deferred to 2014?

Secondly, you talked about some improvements in the financing environment in terms of segments, I think you said. Could you give us a bit of color in terms of where you’re seeing the improvements?

And then thirdly on Sandy, I guess it’s too early to have a strong view on cost, but could you perhaps indicate to what extent do you think insurance will cover the cost of that? Thank you.

Richard Solomons

Okay. Thanks, James. I’ll start with your third question first and work back and then Tom will pick up on CapEx. Look, on Sandy, absolutely, it’s too early. I mean, I think we are very grateful for the fact that we haven’t had any serious injuries or worse in our hotels amongst our colleagues or our guests. And a few hotels are still affected, but not too badly. So I think for us, although it’s obviously a massive disaster for that region, I don’t think it’ll have much financial effect on us at all. So we’re going to let into looking at insurance or otherwise, I think it’ll just be marginal for us financially.

As far as financing is concerned, I think it’s obviously a question we get a lot, so we want just to flag it. I think in the U.S., in the mid-market for the smaller assets, we’re seeing a little bit more availability of finance from the sort of local and regional banks, so there are opportunities. There’s a couple of U.S. projects or a handful of U.S. projects that were on hold that we’re moving forward. So, just maybe a few glimmers of light there and, obviously, interest rates remain very low, so it’s certainly no worse news, it may be slightly be better news.

But I think it’s worth saying that even with the tighter financing environment and even with the economic environment that we’re operating in, as I said in my words, we’ve been effectively signing six hotels a week this year. So there is a lot of activity going on, but it has been skewed more and more to the better owners and the better brands. And so, you can see that reflected, as we’ve talked about before.

But with 13% of the active pipeline against 5% of the room supply, we are really increasing our share of supply. Significant leverage is what we’d expect to do with our set of brands. But any financing that is available is being skewed to the better opportunities. So, although it’s not ideal to be in this environment, actually, in some respects, it’s worked in our favor as being one of the biggest companies with the strongest brands.

James Ainley – Citi

And where do you think loan-to-value ratios are on these – the financing deal?

Richard Solomons

I can’t – there’s no one answer to that. What I would say is they’re a lot lower than they were pre-Lehman and they’re probably going to stay that way, in almost any segment or in any market. Okay. Tom, do you want to pick up on CapEx?

Tom Singer

Sure. Your first question about lower CapEx in the year, I mean, I would characterize this as slippage rather than cancellation of spend. So as I said, a number of those projects for the EVEN brand and for investment through joint ventures, we know will happen, it’s just a question of timing. So recognizing that, our guidance remains as it was for 2013 of growth CapEx of $100 million to $200 million, and maintenance CapEx of around $150 million.

James Ainley – Citi

Okay.

Richard Solomons

It is worth adding that, James, obviously, the vast majority of our growth overall doesn’t require our capital. So we’ve got over 1,000 hotels in the pipeline and obviously, what we invest behind is the new brands and new markets. So important, but in terms of underlying growth, it’s effectively not a factor.

James Ainley – Citi

Okay, fine. Okay. Good. Thank you very much.

Operator

Thank you. Our next question comes from the line of Jamie from Morgan Stanley. Please go ahead.

Jamie Rollo – Morgan Stanley

Hello, yes. Good morning, everyone.

Richard Solomons

Hi, Jamie.

Jamie Rollo – Morgan Stanley

So three questions again, please. First on group regional central costs, what’s your sort of full-year guidance from that, well, I guess your Q4 guidance now? Are we still expecting the one-off bonus payments in Q4 last year to reverse?

Secondly, in terms of signings in the third quarter, the room count was down quite sharply, down by about 30% year-on-year. Is that just a funny quarter?

And then finally, what are you sort of seeing on corporate rate negotiations for 2013, please? Thanks.

Richard Solomons

Okay. Fine. I think I’ll start on your third question. It seems to be a pattern here, three questions. So in terms of corporate negotiations, it’s a bit early to tell. And again, as we’ve talked about in prior years, we’re really pushing our dynamic pricing model, which seems to be working very well and we’re – by the end of this year, we’ll have well over 40% of our customers on dynamic pricing.

And what that does for us is really help drive share within our group accounts and our corporate account. So actually, we think it’s a bit above an absolute rate percentage. So, it’s early to tell, but I think we feel reasonably positive about the direction that’s moving in.

As far as signings are concern, signings last year, we did about 5,000 rooms on our profits on the lodging business, which probably skewed the absolute number of rooms. But in terms of our level of guiding, I think underlying, we’re very close to where we were last year, sort of broadly in line. I think, given all these circumstances we talked about, I think that’s a pretty good result.

And Tom, do you want to pick up on costs?

Tom Singer

Yes. Well, in terms of costs, I mean, the key relationship we always focus on is between revenues and cost on our fee-based business, in other words, margins. And, again, we’re looking to improve our margins year-on-year. We did say at the interims that we had taken some of – some of our costs were less in half one than we expected, but that will reverse through the second half.

So for the full year as a whole, we still expect to report higher fee-based margins and to continue to demonstrate the leverage in our business, above all, our ability to take advantage of scale and to drive efficiency through our cost base.

Jamie Rollo – Morgan Stanley

So the $8 million bonus payments which you referred to as one-off last year, are they not happening this year?

Richard Solomons

We’ll have to wait and see where the year comes out. We have, like every other company, like every other company, like the banks and everybody else, I guess, we have a bonus scheme that’s based on performance. And we’ll have to see how the rest of the year pans out.

Jamie Rollo – Morgan Stanley

Okay. And then just sort of continuing with costs, why did the regional cost in China fall so sharply in Q3, having risen so sharply in H1? Is that a phasing issue again?

Tom Singer

Yes, I think it’s principally phasing. I mean, we are investing more behind our China platform. But you’re talking very small numbers, $1 million, I believe. So, it’s almost lost in the roundings.

Jamie Rollo – Morgan Stanley

Okay, thanks.

Richard Solomons

Thanks, Jamie.

Operator

Thank you. Our next question comes from the line of Wyn Ellis. Please go ahead.

Wyn Ellis – Numis

Yes, hi, good morning, chaps. A couple of questions on the cash, if I can. First of all, the exceptional tax credit, how much of that is cash? And then secondly, on the pension situation, where you’re making a special contribution this year of £45 million, how long will that continue for? Because the deficit looks at being only about £132 million. And could you give us some guidance on where you expect the net cash position to be at the year-end?

Tom Singer

Well, in terms of the tax credits, that exceptional item, that is really the reversal of provisions that we previously held within our accounts. So, that’s not really – that’s not a cash item. That’s simply a P&L item. So, just to make that clear.

Wyn Ellis – Numis

Yes.

Tom Singer

In terms of pensions, we are in the process of discussing a recovery plan for the defined benefit scheme in the UK with the trustee. And thus far, have agreed to pay in £45 million sterling into the scheme in October of this year. Obviously, we’ll need to make further payments to the trustee, but those are still subject to negotiation. And obviously, whatever we pay in will reduce the deficit of £132 million, but we won’t need to pay in that full amount, because obviously, we would expect to earn investment income on the contributions that we make into the scheme.

So, in terms of your last question, which was around year-end net debt cash position, I’m not going to comment specifically, but obviously, we would hope to start the buyback in the quarter, and that will impact the year-end position, depending on how much progress we can make. And obviously, you have to bear in mind that we’ve paid $500 million special dividends in October, so you’d have to take that into account in modeling your end of Q3 position forward to the year-end.

Wyn Ellis – Numis

Sure. One other question if I can, just on system growth, are you still maintaining your guidance there for system growth over the next few years?

Richard Solomons

Yes. We’ve talked about the 2% to 3% in the short term. I think medium term, we were talking about 3% to 5%, and that really depends, obviously, on financing coming back and supply growth coming back into the marketplace. I mean, our focus has got to be on driving our share of supply and I’ve talked before about our – the 13% share of the active pipeline that we’ve got, because obviously most of our – the vast majority of our growth is on assets that we don’t own, control or invest in. We’re very much dependent upon the market overall. So I think, long-term, growing our share is a really important thing. And in the shorter term, the 2% to 3% is – we’re confident we can achieve.

Wyn Ellis – Numis

Okay. Thanks.

Richard Solomons

Thank you.

Operator

Thank you. Our next question comes from the line of Tim from Nomura. Please go ahead.

Tim Barrett – Nomura

Hi, there. I think that’s me, Tim from Nomura. The two things I was wondering. Firstly, on the Barclay, can you talk through what some of the sticking points have been and whether you’re still – would still be looking for $100 million investment program or whether that’s moved?

And then, the second issue is coming back to the topic of corporate rate negotiations. Can you talk about, on a like-for-like basis, where you expect those to come out? I think some of your peers have said high single digits. I just wondered whether you’d recognize that. Thanks a lot.

Richard Solomons

Well, let me pick up corporate rates again. And Tom is handling the whole Barclay thing. I’ll let him talk about that. Look, on corporate rates, I’ll say, I think this percentage movement is misleading. For a start, it’s only a proportion of our business, probably about 30% of our business overall. Secondly, we’re close to having now half of that on our dynamic pricing. And the importance of that is that, effectively, what it gives customers or corporate customers is confidence that they’re going to be getting the best rates or good discounts off whatever rate the hotel is charging.

And we’re finding that has been extremely attractive to them. And so what that’s done, as I said earlier, has really driven our share of their business, I mean, materially driven our share of their business. So, from our system perspective and our owners’ perspective, driving revenues is much more important than a marginal point or two on rate.

So, I think what that means is that in the business – in the part of the business where we are still negotiating flat rates, then we are looking for an increase. Very early to say what percentage we’re going to get to. But more importantly, I think, is the fact that we’re driving our overall share of that business through our leading position on dynamic pricing. And that rate on that will depend on what happens to rates overall. So I think it’s a much stronger position and very beneficial to the customers, which is why they like it.

Tim Barrett – Nomura

Just to understand, where you have that structure, presumably you have a rate scale that moves annually any way?

Richard Solomons

What you effectively have is, we set – hotel pricing moves a lot all the time. And we have what we call our best flex rate, which is effectively the rate of which other pricing is set. So, as a corporate customer will negotiate a discount off that rate for volume, as you’d expect, but that flex rate will move over the course of the year. So we know that if demand goes up, we’re going to be able to move rates. What the customer knows is they’re going to end getting a decent discount for the sort of business they give us off that rate.

And if you think about it, it makes a lot more sense than necessarily negotiating just a flat rate the whole time, and the market could go up or down, so it could end up embarrassing either party and it just gives much more confidence that they know they’re going to be getting a good relative rate, almost whatever happens in the market. So that seems like, to us, a very sensible way of driving that business forward and this proved to be very popular.

Tim Barrett – Nomura

Okay.

Tom Singer

In terms of your first question about the Barclay, I’m not going to comment on the specifics, because obviously, there continues to be a live negotiation, it’s not just on a exclusive basis. But you’re right in that the asset will need investment. We have been talking at length with our preferred counterparty about a property improvement plan and the quantum of investment required is of the order of $100 million-plus. So, it’s a significant refurbishment plan and whoever buys the asset ultimately, we will have to reach agreement on that with them.

Tim Barrett – Nomura

Understood. Thank you.

Richard Solomons

Okay. Thank you, Tim.

Operator

Thank you. Your next question is from Guillaume Rascoussier from Oddo. Please go ahead.

Guillaume Rascoussier – Oddo

Hi, Guillaume Rascoussier speaking from Oddo. I have two questions, the first one a follow-up on online travel agencies. Could you update us on the litigation with the Office of Fair Trading, especially on the calendar for any decision and how could it impact your online distribution strategy in case of an unfavorable legal decision?

And second question regarding the attrition of the pipeline, it’s been down a bit. Do you expect that to decrease again in the next quarters, considering what you’ve said on financing?

Richard Solomons

Okay. Thank you, Guillaume. Well, on the OFT, I can’t comment. It’s a long ongoing process and we’ll see where we get to. But I don’t see it having an impact on our online strategy per se because obviously, that’s now a big part of the market for us, all of our competitors, and the industry generally. So we’ll see specifically where the OFT comes out as we get through of those discussions.

As far as the pipeline is concerned, well, I think there’s been a bit of attrition over the last couple of years, I guess, and that’s been driven by financing, and that’s what you’d expect it to be. I think we’re likely to end up slightly below the 2011 levels overall in terms of attrition, but we’re very focused on quality. And I do think the important thing is to focus on what our share of the active pipeline is in the world, and that’s very significant.

So for us, we’ll drive our revenues in a market where demand has been growing either through additional rooms, I guess, and driving more business into our existing hotels, and I think that’s the way to look at it. We aren’t going to finance a bigger proportion of our pipeline simply to grow our pipeline. I think that would be against our business model and economic sense.

So I think to some extent, and a bit like Thomas said about on the capital side of things, we’re at the mercy of our third-party owners, which is the effect of what is otherwise a very, very strong and powerful business model. So I don’t think I’d read anything particularly into that at all. And with over 1,000 hotels in the pipeline, we have got a lot of growth embedded in the business for some years to come.

Guillaume Rascoussier – Oddo

Thanks.

Richard Solomons

Okay. Thank you.

Operator

Thank you. Our next question comes from the line of Matthias Desmarais. Please go ahead.

Matthias Desmarais – Exane BNP Paribas

Yes. Good morning. Just two questions for me. The first one is that when I look at the RevPAR details for the business in the U.S., I think it is the first time in a while that the Holiday Inn Express RevPAR growth is below that of Holiday Inn. So I was wondering whether here, there was a particular change, because it was the advantages over the next six quarters.

And also, can you elaborate a bit on the STR data versus what you’ve reported in this segment, because it seems that you are at best in line with what STR announced in terms of RevPAR on a monthly basis for Q3?

And the second question regards to the $4 million reorganization of support functions that you booked in Q3, and do you expect any further cost like this in Q4, please?

Richard Solomons

Okay, thanks, Matthias. Look, in terms of – I wouldn’t say Holiday Inn Express is below Holiday Inn. I’d say Holiday Inn is above Holiday Inn Express. It’s a more positive way to put it. But it’s essentially just quarter-on-quarter. These brands are part of the same family, but they’re different brands and they have different dynamics on the individual quarters. So, I wouldn’t read anything into that. Both brands continue to run at a very big premium to their market. And that’s really the thing that we focus on, so nothing to read into that.

As far as the Smith Travel data, I think year-to-date, we are up ahead of Smith Travel and certainly if you look across the industry and I think for Holiday Inn Express as well, is slightly ahead of the market. So, again, it’s quarter-on-quarter, but as we talked about, continuing to – where you’ve already got a strong premium, continuing to grow that premium is – takes a lot of work and effort and that’s what we’ve focused to do and continue to push it ahead. So, again, we are slightly ahead of the market, but running at a pretty low premium. So, Tom, do you want to pick up on the real question?

Tom Singer

Yes. So in terms of the relatively small exceptional item of $4 million, which is described as reorganization costs, this was costs we incurred in offshoring around 50 positions from our UK and U.S. operations to India. So it’s simply the costs of making that change. We wouldn’t necessarily expect there to be a similar item in Q4, but it’s just a one-off movement of support functions to a lower-cost environment, as we drive for further cost efficiencies around the business.

Matthias Desmarais – Exane BNP Paribas

Okay. Thank you.

Richard Solomons

Thank you.

Operator

Thank you. (Operator Instructions)

Richard Solomons

Okay. All right. Thank you, everybody. If there’s no more questions, I appreciate those and thank you for listening and, obviously, if you have more questions in the course of the day, please don’t hesitate to call the team here. Thank you very much, indeed.

Operator

Thank you for joining today’s call. You may now replace your handsets.

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