GreenTree Hospitality Group Ltd. (NYSE:GHG) Q2 2021 Earnings Conference Call November 15, 2021 8:00 PM ET

Company Participants

Rene Vanguestaine - Christensen, Investor Relations
Alex Xu - Founder, Chairman & Chief Executive Officer
Megan Huang - Director of IT Department
Selina Yang - Chief Financial Officer

Conference Call Participants

Billy Ng - Bank of America
Yogesh Modak - ClearBridge
Dan Xu - Morgan Stanley

Operator

Hello, ladies and gentlemen and thank you for standing by for GreenTree's Second Quarter 2021 Earnings Conference Call. At this point, all participants are in a listen-only mode. After management's prepared remarks, there will be a question-and-answer session. As a reminder, today's conference call is being recorded.

I would now like to turn the meeting over to your host for today's call, Mr. Rene Vanguestaine of Christensen, GreenTree's Investor Relations firm. Please proceed, Rene.

Rene Vanguestaine

Thank you, Matt. Hello, everyone and thank you for joining us. GreenTree's earnings release was distributed earlier today and is available on our IR website at ir.998.com, as well as on PR newswire services. As a reminder, we also posted a PowerPoint presentation that accompanies our comments to the same IR website. On the call from GreenTree are Mr. Alex Xu, Chairman and Chief Executive Officer; Ms. Selina Yang, Chief Financial Officer; Ms. Megan Huang, Vice President of Sales and Marketing; and Mr. Nicky Zheng, IR Director. Mr. Xu will present the company's Q2 2021 performance overview, followed by Ms. Huang, who will discuss business operations and Ms. Yang will then discuss financials and guidance. They will be available to answer your questions during the Q&A session which will follow.

Before we begin, I'd like to remind you that this conference call contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended and as defined in the U.S. Private Securities Litigation Reform Act of 1995. These forward-looking statements can be identified by terminology such as may, will, expects, anticipates, aims, future, intends, plans, believes, estimates, continue, target, is or/are likely to, going forward, confident, outlook and similar statements. Any statements that are not historical facts, including statements about the company and it's industry, are forward-looking statements. Such statements are based upon management's current expectations and current market and operating conditions and will lead to events that involve known and unknown risks, uncertainties and other factors, all of which are difficult to predict and many of which are beyond the company's control which may cause the company's actual results, performance or achievements to differ materially from those in the forward-looking statements. You should not place undue reliance on these forward-looking statements. Further information regarding these and other risks, uncertainties or factors is included in the company's filings with the U.S. Securities and Exchange Commission. All information provided, including the forward-looking statements made during this conference call, are current as of today's date. The company does not undertake any obligation to update any forward-looking statements as a result of new information, future events or otherwise, except as required under applicable law.

It is now my pleasure to introduce our Chairman and Chief Executive Officer, Mr. Alex Xu. Mr. Xu, please go ahead.

Alex Xu

Thanks, everyone, for joining our call today. Before we begin, let me mention that because of the impact of the COVID-19 on our operations during the second quarter of 2020, for this reason, we will occasionally during this call, provide Q2 2019 numbers, where we believe we provide a meaningful comparison.

Please turn to Slide 5; we are glad to report that our strong performance continued in the second quarter, compared with Q2 2020. RevPAR increased 49% to RMB134. Total revenues increased 60.7% to RMB347.1 million. Income from operations increased 42.5% to RMB89.3 million, with a margin of 25.7%. Net income decreased 14.4% to RMB80.3 million, with a margin of 23.1%. Non-GAAP adjusted EBITDA increased 44% to RMB111.2 million, with a margin of 32.1% and earnings per share decreased 22.1% to RMB0.79. Total revenues exceeded Q2 2019. However, income from operations, net income and adjusted EBITDA were around two-third of Q2 2019. This is due to the fact that for this year, during the first half, we opened 23 L&O hotels, generating a loss of RMB33.7 million during this ramp-up period. Plenty of these new L&O hotels were added during the second quarter and are mostly located in Chengdu and Chongqing, as both cities are key development areas and our hotels are in premium locations. We expect that they will turn profitable in the not too distant future.

Slide 6 provides more detailed numbers for total revenues, income from operations, net income and adjusted EBITDA.

Now let's turn to Slide 7; the second quarter saw a robust recovery in occupancy rate and RevPAR compared with Q2 2020. This performance has been helped briefly by our continuous expansion into third-tier cities. In addition, the tireless efforts of our franchisees and employees and our local partners have helped us gain even more loyal customers, who value and trust our brands. During the second quarter, our occupancy rate on RevPAR had recovered to 96.9% and 96.2% respectively, of the 2019 levels, a better performance than the industry average.

Slide 8 reflects historical weekly RevPAR performance and compares with 2019. During the second quarter, travel demand gradually resumed as the pandemic was better contained and life returned to normalcy. Especially during the Tomb Sweeping Day and the Labor Day festival, RevPAR recovered substantially month-over-month in April, May and June. However, the recovery and the business momentum were negatively impacted during the third quarter and in October. Though some resurgence of COVID19 cases in Nanjing City and Jiangsu province at the end of July led to tightened travel restrictions which inevitably negatively impacted travel in the region. As a result, during the first week of August, RevPAR dropped to about 60.7% of it's 2019 level, down from 106% of 2019 levels at the end of June. Recent COVID-19 outbreaks in several cities in China have similarly impacted the domestic travel again, resulting in a drop in RevPAR during the first week of November to about 81.3% of it's 2019 level, down from 99.9% of the 2019 levels in the second week of September.

Now starting with Slide 10; let's talk about strategy and execution. First, we are adding more mid to upscale L&O hotels in strategic locations. Secondly, we are further expanding our hotel network into Tier 3 and lower cities. Thirdly, we are investing in information technology innovation, creating smarter hotels. And finally, as we mentioned, we are also trying to penetrate into the fast-developing regions, such as Southwest and the Southern part of China.

Now let's take a look at the Slide 11; during the quarter, we accelerated our expansion into the mid-range and higher-end market in Central, Southeast and Southwest China. We opened 20 L&O hotels, because this year, unlike previous year, we were able to secure tourist locations at economically attractive rent price. All of these L&O hotels are situated within popular transportation hubs, central business districts or government centers. We believe they will act as [indiscernible] hotel and will attract new franchisees to our network and they will act in the future at our model hotels.

Now please turn to Slide 12; we have been continuously growing our high-end segment over the past few years and by the end of the second quarter, hotels in this segment had increased to 9.9% of our total portfolio, compared with only 2.2% in 2017. We plan to open even more hotels in the mid-to-upscales and the luxury segment this year.

Please turn to Slide 13; over the past four years, the vast majority of our new hotel openings have been in China's rising Tier 3 and lower cities, with 70.6% for all new hotels in our current pipelines located in such cities. As a testament to the soundness of this strategy, the pace of recovery at our hotels in such cities has better -- has been faster than in other cities in most quarters. The combination of our existing footprint and our strong performance in these cities, have given us a real competitive advantage to capture future opportunities in China's booming hospitality industry.

Slide 14 highlights our innovative IT process; we are in earlier movers -- we are early movers in our industry in upgrading to an integrated cloud-based management and AI-driven platform. I strongly believe that this is a solid foundation we need moving forward, to ensure that personal data is securely managed, in accordance with privacy laws and regulations. We are fully focused on developing smart and digital hotels, to improve our efficiencies for our hotel general managers and staff, ensure the reliabilities of our booking system and deliver excellent customer service. The eSports industry is now coming to China. We have established a strategic cooperation partnership with the Tencent Games, to further diversifying our eSports business. I believe that we have now more than 10 eSports hotels in operation and also growing.

Slide 15 shows higher growth in both our individual and corporate membership programs which accounted for most of our 91.1% in direct sales in the second quarter. Individual memberships grew to $62 million, up from $49 million year-over-year and corporate memberships grew to $1.8 million, up from $1.6 million year-over-year. We have one of the highest percentage of room nights booked by corporate and individual members. In response to China's five year plan for social and economic development initiatives, we are exploring how the concept of wellness and rural revitalization might be applied in our business, especially in terms of the senior care and community care. We are determined to have a positive impact and contribute to communities, by creating employment opportunities and raising the standard of living in these developing regions.

In closing, I would like to thank our team, franchisees and shareholders for their support. I would like to especially thank our local partners. Many of them have worked very hard during the pandemic period. The Argyle, Urban [ph] and all their team efforts. We have a strong pipeline and expect our positive recovery to continue, as effective government measures contain the resurgence of COVID-19. Moving forward, we are well positioned with our resilient business model, to meet the renewed demand for domestic travelers.

I will now pass the call to Megan, who will summarize our business operations in the second quarter. Megan, please go ahead.

Megan Huang

Thank you, Alex. Please turn to Slide 17 which highlights the year-over-year rebound in our operating metrics from the impact of COVID-19. Landed ADR increased 20.2% to RMB171, up [indiscernible] to 78.6% and RevPAR increased 49% to RMB134. We accelerated the expansion of our footprint across China, opening 201 new hotels in the second quarter.

Moving to Slide 18; at the end of the second quarter, we had 4,542 hotels in operation, 11.8% more than the year before. 53 of these hotels were leased and operated, or L&O hotels and 4,479 were franchised and managed or FM Hotels. While the mid-scale segment remained the core of our business, with 64.2% of all our hotels. We continued our expansion into the higher-end segment. By the end of the second quarter, mid to upscale and luxury hotels accounted for 10% of our total portfolio, while the economy segment remained stable at 25.8%. As Alex mentioned, we also clarified our already dominant position in Tier 3 and lower cities, where 67.7% of all our hotels were located at the end of the second quarter. This strategic advantage, significantly enhanced our cross-market efforts.

On Slide 19; you can see that in the second quarter, we opened 201 hotels in China compared to 111 in the second quarter 2020. Two hotels were in the luxury segment, 43 in the mid-to-upscale segment, 137 in the mid-scale segment and 19 in the economy segment. 10 were in Tier 1 cities, 49 in Tier 2 cities and the remaining 142 in Tier 3 and lower cities. 22.4% of hotels opened in the second quarter were in the mid-to-upscale and luxury segment of the market. The company closed 123 hotels, 83% due to non-compliance with the company's brand and operating standards. The remaining 14 were closed due to property-related issues. The company added 78 hotels to it's portfolio. The number of hotel closures increased due to hotels' non-compliance with the company's brand and rising standard.

Slide 20 shows the change of our quarterly operating performance. In the second quarter, RevPAR for our L&O hotels increased to RMB160. RevPAR for our FM hotels increased to RMB133. ADR for our L&O hotels increased to RMB219 and ADR for our FM hotels increased to RMB169. Occupancy at our L&O hotels increased to 78.8% and occupancy at our ASM hotels increased to 72.9%. As Alex mentioned earlier, performance in the second quarter was positively impacted by gradually resuming travel demand, as the pandemic was better contained and life returned to normalcy, especially during the Tomb Sweeping Day and the Labor Day Festival.

With that, I'll pass the call over to our CFO, Selina Yang.

Selina Yang

Thank you, Megan. Please turn to Slide 21; total revenues increased 60.7% year-over-year to RMB347.1 million. The increase was primarily due to the sustained recovery in hotel operations from the impact of COVID-19 and our newly opened L&O hotels. Total revenue for FM hotels increased 37.3% to RMB217.7 million, while total revenue from L&O hotels increased 132.2% to RMB116.9 million.

On Slide 22, total hotel operating costs were RMB259.9 million, a 67.6% year-over-year increase and a 92.4% increase compared with second quarter 2019. In the second quarter, total operating costs were RMB164.4 million, up 108.3% compared with second quarter 2019. The increase was mainly attributable to the opening of 20 L&O hotels since the beginning of 2021 which resulted in higher rents, higher staff headcount and compensation, higher depreciation and amortization, higher utilities and consumables and higher ramp-up costs. Besides, hotel operating costs in the second quarter 2021, included costs to Urban that were not consolidated in the second quarter 2019 numbers.

Excluding the impact from newly opened L&O hotels in 2021, our hotel operating costs increased 21.5% year-over-year. Selling and marketing expenses were RMB21.7 million, a year-over-year increase of 80.9%, an increase of 32.7% compared with second quarter 2019. The increase was mainly attributable to higher staff headcount and compensation, as well as opening of 23 L&O hotels since the beginning of 2021 which resulted in higher advertising expenses and driver expenses. General and administrative expenses were RMB71 million, up 78.6% compared with second quarter 2019. The increase was mainly attributable to the opening of 23 L&O Hotels, since the beginning of 2021. Increased one time consulting fees for exploring financial or investment alternatives, as well as for capital markets advice. And G&A expenses from Urban which were not consolidated in the second quarter of 2019. Excluding the impact from newly opened L&O hotels and onetime consulting fees, general and administrative expenses increased 0.5%.

Turning to Slide 23; income from operations, defined as revenue minus total operating costs and expenses, was RMB89.3 million, representing a year-over-year increase of 42.5%. The increase was mainly attributable to the sustained recovery RevPAR but was partially offset by the operating loss of our newly opened L&O hotels in 2021, as they were ramping up operations. Operating margin was 25.7% compared to 29% a year ago. Compared with second quarter of 2019, income from operations decreased by 55.7%. And operating margin decreased from 51.4% to 25.7%. On the same slide, net income is RMB80.3 million with margin of 23.1%. Adjusted EBITDA increased 44% to RMB111.2 million. Adjusted EBITDA margin decreased to 32.1% year-over-year. Core net income decreased to RMB78.9 million with a margin of 22.7%. This decrease in net income, adjusted EBITDA and core net income are mainly attributable to the increased number of L&O hotels, both nearly opened and in the pipeline.

Please turn to Slide 24; net income per ADS was RMB0.79, against $0.12. Core net income per ADS basically diluted non-GAAP was RMB0.77 against $0.12.

Let's now take a look at Slide 25; as of June 30, 2021, the company had a total cash and cash equivalents, restricted cash, short term investments, investments in equity securities and time deposits of RMB1.3 billion compared to RMB1.7 billion as of March 31, 2021. The decrease from the prior quarter was primarily attributable to acquisition costs for our L&O hotels, loans to our franchisees and profit investments, offset by drawing down bank facilities. We will continue to execute our growth strategy, including potential acquisitions and further support to our franchisees.

On Slide 26, we didn't expect a significant impact which COVID-19 has had on our business in the second half of this year. So we expect total revenues for the full year of 2021 to grow 25% to 30% over 2020 levels and 7% to 12% over the level of 2019.

This concludes our prepared remarks. Operator, we are now ready to begin the Q&A session. Thank you.

Question-and-Answer Session

Operator

We will now begin the question-and-answer session. [Operator Instructions] Our first question will come from Billy Ng with Bank of America. Please go ahead.

Billy Ng

Good morning, everyone. I just have one question. First of all, congratulations on the results. But I'm just curious, in terms of profitability, as some of the slides suggest that, the leased and operated hotels has dragged the profitability when we compare our earnings back to 2019 level, even though revenue and number of hotel and RevPAR are already back to 2019 level or in terms of number of hotels already exceeding 2019 level, our earnings is still lower than that. It seems like it's mainly because of the leased and operated hotels. So my question is like, for those newly opened leased and operated hotels, what stage are they in? Are they still in the ramp-up and how much improvement can we expect in the next one to two years, to see the margin and RevPAR profitability to positively contribute to the bottom line?

Alex Xu

Billy, thank you so much. I want to give you a general guide -- direction of the status of those hotels and the region we added and I think that the ramp-up period will be likely affected by -- also the COVID as well as, our further -- we need to make even further, some improvement to those hotels. Now into 2017 to 2019, all the way to 2020, the hotel market has been very hard. It is very difficult to secure great locations with affordable price to set up our model hotels, especially in those areas, where we are having a lower penetration, such as Southeast and the Southern part of China. And so, these newly added hotels, with a very attractive rental price and some -- most of them are in existing hotels and that we needed to convert into standard hotels. But whenever you take over those hotels and there is a -- like there is a change of operation and the staffing and all of those necessary so-called preparation work and we expected typically, those will be six to nine months and some of them could be up per year and we are doing the improvement in operations and CapEx and also the -- repositioning at the same time.

So we expect in the six months of the year, those hotels were back into that -- creating a positive impact to the bottom line and also creating a model hotel in those cities. And for instance, we added hotels in Shanghai-Nanjing Road which is very difficult to find in the past. And we also added a few in Chengdu, such as [indiscernible], so those are great locations, I think in the future, can use as a showcase for our development.

Billy Ng

One last question is that, if we compare -- if we just RevPAR -- what's the RevPAR number for those newly opened leased and operated hotel and what's the target of this RevPAR, let's say if we are talking about one year from now?

Selina Yang

Hi Billy, this is Selina. Actually, you can find -- in this quarter, our RevPAR for L&O hotels was higher than the RevPAR of our franchise, FM hotels. And for the newly opened hotels, the average RevPAR for them was RMB160 [ph].

Billy Ng

Thank you.

Operator

Our next question will come from Yogesh Modak with ClearBridge. Please go ahead.

Yogesh Modak

Hi there, can you hear me?

Selina Yang

Yes, very clear.

Yogesh Modak

Hi, this -- why is the reporting so late? Like, I was checking when Q2 of 2020 was announced and I think it was announced a good two months before you're announcing this Q2. Why is the reporting so late?

Selina Yang

Thank you. Thank you for your question. Actually, in the second quarter, we spent more time completing the audit process, due to the acquisition of our newly opened hotels. We acquired 20 single hotels. So that's the major reason and accordingly, we plan to complete our third quarter earnings call by the end of this year. We will try our best. Thank you.

Yogesh Modak

Okay. The next question I have is, in a year's time, the current investment in L&O hotels is supposed to be breakeven or profitable. But by then, you might acquire many more. So is the company entering an investment phase? You have a lot of capital available on the balance sheet and it sounds like you think the opportunity to invest is good. So are you going to enter an investment phase, where there will be a protracted period of a couple of years, let's say, or more of depressed margins, as you keep investing in properties? And associated with that, in the past, you've had a very capital-light business. But if you're going to start investing capital in L&O hotels, have you thought about what kind of returns you're expecting to generate? How long are the leases, so I'd be interested in both those things, as to, is there an investment phase coming? How low will margins go? How long will margins stay depressed and what kind of return hurdles and lease lengths are you looking at?

Alex Xu

That's a great question. I would like to address to you that, our current strategy has not been changed. That we'll continue to focus on the franchise and manage that business model. We will continue to improve our products and the customer service experience, our franchisee support system. And I said and also the smart and digital hotel concept and also penetrating to the third and fourth tier city. So that strategy will be focused and continued. And in addition, we also found many local partners and that they are very, very great opportunities, that we can work together, empower them to do great development. As I mentioned, our Argyle Group, our Urban group, our [indiscernible], those are our strategic partners. They are also developing -- focusing on franchise and manage the business model and we'll use the cash to just penetrating to those weak area, where we need to showcase our brand and locations. So that's our primary strategy on the going forward.

So, that's the -- that's our -- again, that's our current focus. And the last quarter, we have -- this year, we may have added some L&O hotels and primarily because we find those transportation hub area. So, it's a great location and it's going to be very hard to find during the normal time and that the price and the rent will be higher. So, I hope that answers your question regarding our future business plan.

Yogesh Modak

Thank you.

Operator

[Operator Instructions] Our next question will come from Dan Xu with Morgan Stanley. Please go ahead.

Dan Xu

Thank you. Good morning, Alex and Selina and Megan; this is Dan from Morgan Stanley. Thanks for the presentation. I have two quick questions, both relating to the L&O hotel openings. So I think the first question was for Selina; on page 22, management is trying to break up the newly -- costs related to the newly opened L&O hotels. My question is for the RMB67 million this quarter, that's relating to the newly opened L&O hotels and does it mean that it accounts for all three months of operations for all these newly opened hotels? And is there any one-off? So my question is more about how recurring is this RMB67 million should we expect the number to go higher in the next few quarters? That's my first question.

Selina Yang

Okay. Thank you, Dan. Actually, the RMB67 million costs for the hotels, will not keep increasing in the future, for the already busy 23 L&O hotel because for the RMB67 million, they included our depreciation-amortization for the hotels, rental and personnel course for our -- these operating hotels, as well as some advertising fees for promotion of our newly opened offbeat hotels, when past a period, all these hotel costs will keep stable, mainly include the rent and personnel costs. So that's why, we don't think the hotel operating costs will keep increasing for our hotels.

Dan Xu

Thank you, Selina. That's very clear. My second question is on page 25. So for the cash outflow, for investment and hotel acquisition, that's around CNY370 million. Does it mean that this is the cost that we use for the 20 hotels that we acquire? What are the valuations that you use for these hotel acquisitions? Can we get a rough idea on how do you value on the hotels, so is it by per room basis or you look at the other multiples? Thank you.

Alex Xu

Okay. Dan, we use the -- in different locations, we use different numbers, it depends also on the current hotels, location, the property conditions, the remaining -- the commitment period. So for some very newly hotels we may -- we primarily use the cost based program basis, instead of the future revenue, because the last quarter -- we identified most of those hotels during the first quarter of this year and the operating performance was negatively impacted by the COVID-19. And so we are able to secure those hotels, significantly below the costs, replacing the basis.

Dan Xu

Thank you, Mr. Xu. Thank you. That's it for me.

Operator

[Operator Instructions] Thank you. As there are no more questions, this concludes our question-and-answer session. I would like to turn the conference back over to Ms. Selina Yang for any closing remarks.

Selina Yang

Thank you. Including, on behalf of the entire GreenTree management team, we thank you for your interest and participation in today's call. If you require any further information or have plans to reach to us, please feel free to contact us. Thank you all.

Alex Xu

Thank you. Thank you all.

Megan Huang

Thank you. Bye-bye.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.