InterContinental Sales Growth Continues Across Key Regions as Economic Concerns Loom

Senior Equity Analyst

Dan Wasiolek

We think InterContinental will retain its brand intangible asset (a source of its narrow moat rating) and expand room share in the hotel industry in the next decade. Renovated and newer brands focused on an attractive next-generation traveler position as well as a loyalty program of 115 million members as of June 30, 2023, will drive this growth. The company currently has a mid-single-digit percentage share of global hotel rooms and about a 10% share of all industry pipeline rooms. We see its total room growth averaging near 4% over the next decade, above the 1%-2% supply increase we estimate for the U.S. industry.

With 99% of rooms managed or franchised, InterContinental has an attractive recurring-fee business model with high returns on invested capital and significant switching costs (a second moat source) for property owners, as managed and franchised hotels have low fixed costs and capital requirements, and contracts lasting 20-30 years have meaningful cancellation costs for owners.

We expect InterContinental's brand and switching cost advantage to endure, driven by new hotel brands, renovation of existing properties, technology integration, and a leading loyalty program, which all drive developer and traveler demand for the company. InterContinental has added several brands since 2017. In August 2021, InterContinental announced a new luxury brand, Vignette. It also announced a midscale concept in June 2017, Avid, which it sees as addressing an underserved $20 billion market with 14 million guests under a normal demand environment. Further, the company announced another midscale brand, Garner, in 2023 to address conversion activity. In addition, InterContinental has recently renovated its Crowne Plaza (12% of total room base) and Holiday Inn/Holiday Inn Express (60%) properties, which we believe will support its brand advantage. Beyond this, the firm has 115 million loyalty members, as of June 30, 2023, providing an immediate demand channel for third-party hotel owners joining its brand.

Business Strategy & Outlook

We see InterContinental as having a narrow moat driven by enduring intangible brand and switching cost advantage in its asset-light business model, which we believe will continue to support strong returns on invested capital including goodwill (35% average in the next five years) well above its cost of capital (8%). Thanks to decades of high-quality service, travelers and third-party owners trust InterContinental to deliver a consistently high-level experience. The brand advantage is evident by its dominant scale, maintainable unit growth demand from third-party owners, and leading loyalty and online presence. Further, the strong InterContinental brand and focus on a managed and franchised structure drive a lasting switching cost advantage. 

Globally, InterContinental has large scale, with a mid-single-digit share of existing industry rooms; this is set to expand, given the company's 10% room share of the industry's pipeline. This scale offers third-party owners advertising, reservation, and loyalty program reach that cannot be achieved by smaller competitors. The international hotel market remains fragmented, leaving a large opportunity for InterContinental to bring independent hotels under its franchise and management umbrella.

InterContinental's strong brand is showcased by its unit room growth. With 99% of 2022 total rooms under franchise and management contracts, the company depends heavily on its brand to attract unit growth from these third-party owners. From 2010 through 2022, total room growth has averaged about 3% (despite just 0.3% growth in 2020 as COVID-19 created temporary financing and construction disruption, and a drop of 0.6% in 2021 as the company focused on removing underperforming assets), above the long-term U.S. industry supply growth of 1.8%. InterContinental's unit growth is lowered by the company's focus on brand quality, which leads to annual closures on average of around 2%-3% of its existing rooms.

InterContinental is a leader in managed properties. Owners that outsource management responsibilities seek a strong brand and management team with scale and expertise in reservation, advertising, marketing, and labor management, which leads to strong revenue per available room, occupancy, and profitability. Worldwide there are nearly 900 lodging management companies, but only a few manage more than 100 properties. InterContinental had around 969 managed hotels as of Sept. 30, 2023.

InterContinental's managed and franchised contracts are typically for 20-30 years and drive a switching cost advantage. Termination of these contracts requires significant expenditures to renovate and rebrand a property to meet the new brand specifications, results in a disruption to business operations for the owner, and leads to termination fees that must be paid by the owner, typically around two to three years' worth of average monthly management fees, plus the previous year's incentive fee.

InterContinental's brand advantage is apparent in its ability to successfully expand into new hotel brands. Recent brand launches focus predominantly on the growing lifestyle and luxury segment that targets the next-generation global traveler. The company currently has 18 brands, with several of those new since 2017 (including the purchase of Six Senses in February 2019). Avid launched in June 2017 and addresses the midscale segment, which management believes is underserved, with a $20 billion and 14 million-guest opportunity under normalized demand conditions, followed by another midscale brand to address conversion activity in 2023). Atwell was launched in May 2019 and addresses the luxury all-suite market. A new luxury brand, Vignette, was announced August 2021. Most recently, the company launched Garner, a brand focused on midscale conversions.

InterContinental also has one of the largest loyalty programs in the industry, which attracts third-party owners, further validating the brand. The company's base of 115 million loyalty members, as of June 30, 2023, ranks among the highest in the hotel industry, exceeded only by Marriott and Hilton.

Franchise and managed properties are higher-margin and less capital-intensive than owned properties, and InterContinental's high exposure here results in higher relative ROIC and EBI growth versus having a larger ownership mix. We project InterContinental's ROIC (including goodwill) to average 35% over the next five years. Intermediate-term operating margins are forecast in the low 20s. We model InterContinental's annual room growth at about 4% for the next 10 years, comfortably above the industry's long-term supply growth of 2%, as we believe InterContinental is well positioned for market share gains over the next decade.

We believe a wide moat rating would not be prudent, given competition we see from independent hoteliers and alternative lodging (Airbnb and aparthotels). International markets have a higher mix of independent hotels (60%) compared with U.S. markets (30%). For example, the top five hotel brands control more than one third of all rooms in the U.S. but only 10% of international rooms. We believe this independent presence will remain in international markets, as many international travelers prefer the experience that boutique hotels offer. Further, smartphone proliferation and technology advances are increasingly enabling boutique firms to compete head to head with major brands like InterContinental. Finally, we believe that alternative lodging options, such as apartment and home rentals, will continue to grow. Airbnb offers 6.6 million rooms on its website, up from 1 million at year-end 2014; this compares with InterContinental's room count of 912,000 at Dec. 31, 2022.

Narrow

Economic Moat

InterContinental Hotels Group

InterContinental Hotels Group Plc owns and operates hotels. The firm's hotel brands include: InterContinental, Crowne Plaza, Hotel Indigo, Holiday Inn, Holiday Inn Express, Staybridge Suites, Candlewood Suites, EVEN Hotels, IHG Rewards Club, Kimpton and HUALUXE Hotels and Resorts. It operates through the following segments: Europe, Middle East, Asia and Africa, Americas, Greater China and Central. The company was founded in 1777 and is headquartered in Denham, the United Kingdom.

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Purchase of own shares LONDON, UK / ACCESSWIRE / November 20, 2023 / InterContinental Hotels Group PLC (NYSE:IHG)(LSE:IHG)(OTC PINK:ICHGF) The Company announces that on 17 November 2023 it purchased the following number of its ordinary shares of 20340/399 pence each through Goldman Sachs International ("GSI") on the London Stock Exchange in accordance with the authority granted by shareholders at the Company's Annual General Meeting on 5 May 2023 (the "Purchase"). The Purchase was effected pursuant to instructions issued by the Company on 21 February 2023, as announced on 21 February 2023.

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Purchase of own shares LONDON, UK / ACCESSWIRE / November 6, 2023 / InterContinental Hotels Group PLC (the Company) (NYSE:IHG)(LSE:IHG)(OTC PINK:ICHGF) The Company announces that on 03 November 2023 it purchased the following number of its ordinary shares of 20340/399 pence each through Goldman Sachs International ("GSI") on the London Stock Exchange in accordance with the authority granted by shareholders at the Company's Annual General Meeting on 5 May 2023 (the "Purchase"). The Purchase was effected pursuant to instructions issued by the Company on 21 February 2023, as announced on 21 February 2023 Date of purchase: 03 November 2023 Aggregate number of ordinary shares purchased: 223,504 Lowest price paid per share: £ 56.4600 Highest price paid per share: £ 57.6000 Average price paid per share: £ 57.2611 The Company intends to cancel the purchased shares.

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Purchase of own shares LONDON, UK / ACCESSWIRE / October 16, 2023 / InterContinental Hotels Group PLC (NYSE:IHG)(LSE:IHG)(OTC PINK:ICHGF) The Company announces that on 13 October 2023 it purchased the following number of its ordinary shares of 20340/399pence each through Goldman Sachs International ("GSI") on the London Stock Exchange in accordance with the authority granted by shareholders at the Company's Annual General Meeting on 5 May 2023 (the "Purchase"). The Purchase was effected pursuant to instructions issued by the Company on 21 February 2023, as announced on 21 February 2023.

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Purchase of own shares LONDON, UK / ACCESSWIRE / September 29, 2023 / InterContinental Hotels Group PLC (the Company) The Company announces that on 28 September 2023 it purchased the following number of its ordinary shares of 20340/399 pence each through Goldman Sachs International ("GSI") on the London Stock Exchange in accordance with the authority granted by shareholders at the Company's Annual General Meeting on 5 May 2023 (the "Purchase"). The Purchase was effected pursuant to instructions issued by the Company on 21 February 2023, as announced on 21 February 2023.

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