reits -impact on hotel industry report

HOTEL REITS An action agenda for growth for Hotels investment industry

A n e x c l u s i v e r e p o r t

REAL ESTATE INVESTMENT TRUSTSIMPACT ON HOTELS INVESTMENT INDUSTRYA NEW ERA OF GROWTH FOR HOTELS INVESTMENTS SECTORREITS

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REITs - IMPACT ON HOTELS INVESTMENT INDUSTRY

Contents

Executive Summary 3 Global Success and acceptance of REITs 5 Hotel REITs The impact of REIT in Hotel Industry in India 6

Solving financial challenges for small and medium sized hotels companies 8 Solving financial challenges for growing medium sized hotels and hospitality companies 9 Conclusion 12

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Hospitality sector to attract over UsD 200 billon in tHe next tHree years in inDia. The Indian hotel industry presents an exciting business landscape & opportunities for both multinational and domestic players. According to a recent report by global database and research service for hotel construction projects, tophotelprojects.com, around 300 branded hotels will come up in India over the next three to four years constituting about 17% of Asia’s hotel construction pipeline. More than 200 new hotels spread across nearly 50 brands are expected to be operational in the next four-to-five years in India. India’s hospitality sector is likely to see investment in excess of $200 billion over the next three years, with investors shifting their focus to Asia’s growing economies. Hotels and tourism is the largest service industry in India, with 100% FDI allowed in Hotels sector, and with the formulation and introduction of REITs(Real Estate Investment Trusts) India presents an enormous opportunity to the Hotels industry. In fact, the sector attracted second highest FDI amounting to USD 3.2 billion in 2013-14 in India.

Hotel reit-Hotels real estate investMent trUsta new era of growth for Hotels investment industry.

The vast and fast-paced hotels and real estate sector of India imperatively requires reliable and transparent investment vehicles like REITs, for prospering optimally, drawing more FDI, contributing more to the national GDP and emerging fast as one of the largest and most prosperous hotels and real estate markets of the world in the nearest future.

Executive Summary

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As per the latest estimates of world-famous Cushman & Wakefield, the magnitude of the real estate and hotel assets under all categories which can qualify acceptance of REITs in India, will reach the level of US$20 billion by the year 2020; and by this capacity of market capitalization, the REIT market of India is most likely to rank among the top five biggest markets of the Asian Subcontinent. A Hotel REITs is a public listed company that owns and operates income-producing hotels and resorts. Hotel REITs own hotels or resort properties and could include different types of properties such as limited service, full service, resort, conference center, suite and airport properties. Hotel REITs derive value from the underlying value of hotel properties the REIT owns and from the income generated by those properties. Hotel REITs is a hotel company that offers common shares to the public. A REIT has two unique features — its primary function is managing income-producing hotel properties and distribute its most of the profit to its shareholders.

reits - real estate investment trusts have been in the news in India lately ever since SEBI issued guidelines in 2013 for REITs to come into existence within the regulatory framework. Investors, both wholesale and retail, now will have another avenue to invest in the real estate sector through a regulated fund route. Hotel REITs will help investors channelize their investments into India’s realty and hotel sector through a regulated mechanism and create hotel and real estate companies that continually delivers maximum value and wealth to all its stakeholders.

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REITs have been in existence in over 30 countries worldwide and REITs own approximately $1 trillion of commercial real estate assets, including listed and non-listed REITs. In US itself, 172 listed REITs on NYSE has a market capitalization of $619 billion [by NAREIT]. REIT is high dividend yield investment instruments worldwide and has historically increased investor’s total

return and lowered the overall risk.REIT approach to real estate investment across the globe. With the latest news from India, 31 countries now have REIT regimes in place, a group that includes both developed markets and developing economies. Remarkably, a decade ago there were only a dozen countries with REIT legislation, and just over 20 countries as recently as five years ago.

Global Success and acceptance of REITs.

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Factors FavoUrinG sUstenance oF reits in inDia.1. India’s steady and fast economic growth

inevitably demands more hotels, commercial and industrial buildings, modern offices, conference centers, and other objects of real estate mentioned above in future years.

2. REITs will also help the overleveraged companies in getting themselves deleveraged. Small to big investors will get promising and secure investment options in the real estate, which are rather less risky and uncertain than those in the under-construction properties for getting regular income.

3. Thus, REITs are most likely to infuse a fresh and bright lease of life into the hotel and real estate sector of India. Besides these benefits, other benefits and facilities offered by REITs are the following --- A less risky investment avenue to general investors; investment diversification; regular dividends; better liquidity situation; transparency; bright growth prospects; improvement in Debt-Equity ratio in the Hotel and Real Estate Market; tax efficiency, etc.

4. Availability of Hotels sector financing from more structured, institutional sources will help in reducing the over dependence on a particular means of financing. In this context, Hotel REIT’s will assist in streamlining the Hotel sector by creating a transparent mechanism for raising finance from public domain.

5. Specifically in the context of hotel sector, introduction of REITs will bring pure equity capital which will assist in improving the debt-equity balance in the hotel industry, through provision of equity financing and thereby assist in the growth of a more stable and mature hotel industry.

6. Hotel REITs will offer investors another option or avenue to include Hotels in their investment portfolio. Further, well managed REITs may offer higher dividend yields which may be higher compared to other investments. Hotel REITS dividends are secured by stable rents from long term leases.

7. Compared to investing directly in hotel

Hotel REITsThe impact of REIT in Hotel Industry in India

An action agenda for growth, a bright and new era of growth for hospitality industry.

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properties, REIT investment offers the advantage of liquidity – the ease of converting assets into cash. Hotel REITs are listed on the stock exchange and the trading of the shares in an REIT can be done throughout the trading day. Individual investors enjoy a tax-exempt distribution which comes in the form of dividends in the REITs structure. The process of buying or selling a REIT is transparent and flexible. Moreover, there are a lot of external controls and monitoring of REITs, which increase transparency and corporate governance.

8. REITs are required to comply with corporate governance, information disclosure, and financial reporting standards laid down by the Regulator. In this sense, there is a regular information exchange and availability of information in the public domain and therefore REITs bring more professionalism and transparency in Hotel industry.

9. Hotel REIT is collective pooled investment instrument just like Mutual Fund, invest primarily in completed and revenue generating hotel properties. The rental income generated will be distributed among investors. While REIT is professionally managed liquid investment option, investor can invest in smaller amount and have exposure to real estate and hotel properties as well as diversify its portfolio. SEBI has issued the REIT -Real Estate Investment Trusts (REITs) Regulations and notification in September, 2014.

challenges for reits1. There are several challenges to overcome

before the successful implementation of REITs in India. To begin with, title certification in India is an ambiguous and cumbersome process, and this complexity discourages many potential foreign and domestic investors from buying into income-yielding hotel properties.

2. Another issue is the valuation mechanism. Real

estate valuation in India is largely unregulated and lacks a standard code of practice or ethics. In order to implement REITs, the government will have to address these issues via making and amending multiple legislatures.

3. To remove any regulation hurdle coming in the way for foreign investors putting money in the newly created Real Estate Investment Trusts ( REITs) structure, the government has proposed allowing overseas investments in this space within the FEMA regulations. The proposed relaxation is expected to help those entities which are registered and regulated under the SEBI norms, to access foreign investments through their REITs. REITs can be listed and traded on stock exchange like shares or any other security and also help create new platforms for raising of funds by real estate and hotel companies.

4. However, high and glamorous success of REITs in the future years will largely depend on the taxation of REITs, stamp duty and taxation for offshore investors, stamping of agreements associated with the transfer of property to the REITs, and efficient administration and management of the REITs in India.

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Solving financial challenges for small and medium sized hotels companies

One of the key challenge that Indian Hotel industry specially Small and medium enterprises ( SMEs ) face is the lack of adequate finances and high capital cost. However, there are innovative ways to manage financial challenges in Hotel businesses like new sources of raising equity capital, public listing on SME stock exchange, attracting private equity investors from domestic and international markets and wealth creation.For growing medium size hotel companies seeking to raise capital, an SME public listing on an SME stock exchange can be a superior route to growth. SME stock exchange platforms provide a great opportunity to the medium sized hotel companies to raise equity capital for the growth and expansion. SME public listing and issuing an IPO on a SME stock exchange will help unleash the valuation of SME companies and in the process create wealth for all the stakeholders, besides enormous income tax benefits. All small and medium hotel companies have the potential to grow into big multinational companies, provided they get adequate capital support. The SMEs now have the great opportunity to grow into big public listed multinational companies by getting themselves listed on a SME stock exchange. This concise report will help medium sized Hotel enterprises to be well prepared to transform their medium sized company into a successful and wealthy public listed company that continually delivers maximum value to its shareholders.

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small and Medium enterprises sector - the next big revolution across the globe.

World over, dedicated SME trading platforms or exchanges are prevalent. Some of the known stock markets for SMEs are AIM (Alternate Investment Market) in UK, TSX Ventures in Canada, GEM (Growth Enterprise Market) in Hong Kong, MOTHERS (Market of the high-growth and emerging stocks) in Japan, Catalist in Singapore and the latest initiative in China – Chinext and in India as BSE SME and NSE Emerge. As a matter of fact, NASDAQ also started as an SME exchange.Unleash the business valuation & multiply the valuation to 100 times over. The Top 10 advantages of SME public listing for medium sized hotels enterprises seeking to raise capital are stated below:

1. easier access to equity capital and better funding opportunities: Going public and coming out with an IPO on an SME exchange provides hotel SMEs with the equity financing opportunities to grow their business from operations to expansion to inorganic acquisitions. Access to equity financing lowers the debt burden leading to lower financing costs and healthier and wealthier balance sheets.

2. enhanced value creation and unleashing the business valuation many times over.Valuation of a company is determined by many factors, one of which is class of company-whether public listed or private limited. Going for a public issue of capital will enhance the company’s visibility. Greater public awareness gained through media coverage, publicly filed documents and coverage of stock by sector investment analysts will provide the hotel SMEs with greater profile and credibility. This can result in more diversified groups of investors, which may increase the demand for that company’s shares leading to an increase in the company’s value and enhanced value creation.

3. balanced risk Management for promoters: SME public listing will help Hotel Small and Medium Enterprises promoters and owners to distribute the risk of business efficiently. Listing the company would facilitate expansion of the investor’s base, which in turn help company get secondary market for equity financing, including private placement.

Solving financial challenges for growing medium sized hotels and hospitality companies

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4. Easier and efficient entry and exit platforms for private equity and other strategic investors leading to increased participation from private equity investors: The presence of a market-driven transparent trading platform provides with a ready and easy entry and exit for strategic investors. Listing not only offers the investors flexibility for entry and exit, but also the confidence required for any such transactions. The listing would result in an increased participation by venture capital players as they would have a ready, transparent and tax-efficient exit route.

5. no long term capital gain tax: Normally, transfer of unlisted shares attracts long term capital gains tax of 20% and short term capital gains of up to 30%. Whereas in case of listed shares, tax on long term capital gains is nil and short term capital gains is 15%, provided the transaction has been subjected to securities transaction tax (STT). This preferential tax treatment on transfer of listed shares is also available to shares listed on SME Exchange. Listing on SME Exchange is a valid tax-planning tool and could, thus, lead to enormous tax saving for hotel and tourism SME entrepreneurs & investors.

6. no tax on fresh equity infusion in the company: Recently the Finance Act, 2012 imposed a tax liability on fresh issuance of equity shares by an unlisted company to investors other than “Registered Venture Fund”, if the issuance is made at a value more than the fair value. This could make SMEs subject to heavy tax outgo, since they often go for fund raising through equity issuance to investors. Such a tax liability, however, does not attract if the shares of the company are listed on recognize stock exchanges, including SME Exchange.

7. transform indian growing Hotels sMe into Global Mncs, corporate image creation, better visibility and strong brand building: Going for a public issue is most likely to enhance the company’s

visibility. Greater public awareness gained through media coverage, and research coverage by sector investment analysts provide the SMEs with greater visibility and help brand building which otherwise may remain a dream especially for SMEs.

8. sMe listing on stock exchange can facilitate growth through strategic investments and sMe mergers and acquisitions and private equity from both domestic & international investors: The hotel SME companies in their effort to have forward or backward integration for growth and expansion may take a strategic stake in other hotel SMEs. Domestic & International investors repose faith in listed SMEs. Listed SMEs are likely to get strategic investments from both, domestic and international investors as well as from private equity and strategic investors. Instead of a direct cash offering, using shares for an acquisition can be a tax- efficient and cost- effective vehicle to finance such a transaction.

9. incentive mechanism for employees: ESOPs and any other share-based compensation plan of listed company have an immediate and tangible value to employees. This, in turn, serves as a talent retention tool. This can serve to ensure stronger employee commitment to the company’s performance and success

10. Strong Corporate governance & financial controls: Though the requirements for a company listed on SME Exchange are not as stringent as that for Main Board listed companies, nevertheless SME listing ensures that the company has drawn up the internal control systems and set up minimum required framework of corporate governance. This, in turn, lends sustainability to the business.

bUsiness blUeprint to transForM tHe MeDiUM sizeD Hotel coMpanies to Global Mncs.

start preparing as soon as possible:

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• Begin the preparation of listing process early enough so that your pre listed company acts and operate like a public company at least a year before the IPO.

• Commit substantial resources to the IPO process and build the quality management team, robust financial and business infrastructure, corporate governance & investor’s relation strategy that will attract the right investors.

• Don’t underestimate the amount of time the IPO journey will take or the level of accountability and corporate governance required by a public limited company.

sMes should start preparing to outperform competitors on key benchmarks: • Investors base an average of 70% of their

IPO investment decisions on the financial performance of the company especially debt to equity ratio, EPS growth, sales growth, ROE, profitability and EBITDA growth.

• Investors base an average of 30% of their IPO investment decisions on the non-financial factors especially quality of management, corporate strategy and execution, brand strength and corporate governance.

• SME should be able to articulate an effective equity story backed up by a strong track record of growth which

sets you apart from your competitors while maximizing value for owners.

evaluate various capital raising options: • Consider a multi-track approach and the

expanding number of capital raising strategies including a strategic sale to a trade or financial buyer, joint venture, private placement and compare all the options to arrive at the best decisions to maximize the value and wealth.

address investors current concerns: Recognize the need for enhanced corporate governance especially recruiting qualified team members, improved internal controls and systems and forming a qualified audit committee.

Fine tune your internal business operations-especially working capital management, regulatory risk and rationalizing the business and financial structure.

Ensure timely and accurate financial information is available. Appropriate systems and controls are in place with all the financial and management information readily available on monthly and quarterly basis.

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By the very nature, REITs are beneficial to both the investors and the hotel and real estate industry as a whole, in many different ways. REITs

will provide new and swift sources of finances to the cash-starved Indian Hotel and property developers, who have been suffering from one of the highest interest rates of Asia. Hotel REITs will help investors channelize

their investments into India’s realty and hotel sector through a regulated mechanism and create hotel and real estate companies that continually

delivers maximum value and wealth to all its stakeholders.

The SME listing window of opportunity is available to medium sized hotel companies seeking to raise capital for growth and expansion. Advance

preparation & planning are critical. Lack of preparation and proper planning can jeopardize an SME IPO. SME Listing and bringing IPO is a long process and involves enormous amount of work and planning like

building an equity story, strong financial results, timely and accurate financial and accounting information, strong internal controls, qualified

management team, corporate governance and investor’s relations.

If you want your hotel enterprise to initiate the several benefits of REITs and/or SME public listing and explore the various financial growth strategies to transform to a public listed company, start getting ready by getting in touch with us for a strategy alignment assessment for growth.

Conclusion

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Brief Profile of Author: Mr. rajan bhatia, Fca is an experienced Chartered Accountant and alumnus of prestigious Shri Ram College of Commerce, Delhi University and IIM-C with over 20+ years of experience across several industry sectors such as Hotels and Hospitality, healthcare, private equity and financial services. After having worked with The Oberoi Group of Hotels for over 7 years till 2011, Rajan founded and started his financial and business consulting firm in 2012, Global CFO, providing most innovative and growth oriented services like virtual CFO services, funds raising, SME public listing, IPO advisory, FDI investments, investment banking, M&A, corporate finance and India entry services to foreign companies seeking to enter and expand in India. Rajan Bhatia and Company, Chartered Accountants, ( www.globalcfo.in) is a leading certified accounting, financial and management consulting firm. Rajan Bhatia is a business author, corporate trainer, business advisor, management consultant and mentor to several global SMEs and is associated and regularly invited to speak and train at various industry bodies and associations like CII, ASSOCHAM, NASSCOM, AIMA, FICCI, TIE, United Kingdom India Business Council, Indo French chamber of commerce, Indo US Chamber of Commerce, Institute of Chartered Accountants of India, Toastmasters International, USA and World Association of small and medium enterprises.

About Rajan Bhatia & Company, Chartered Accountants. www.globalcfo.in

Rajan Bhatia & Company is a certified Chartered Accountants and one of the India’s leading most trusted financial services firm registered with most trusted and respected The Institute of Chartered Accountants of India. Our mission is to transform SMEs to large public listed MNCs by providing the most trusted, specialized, innovative and highest levels of services to our esteemed clients. We are the trusted service network member of United Kingdom India Business Council, UKIBC to provide India entry services to UK SMEs. We are the esteemed member of several respected industry bodies like NASSCOM, CII and provided services to several SME and MNC organizations. Global CFO is the management consultancy services division of Rajan Bhatia & Co., Chartered Accountants. A leading certified accounting, auditing, financial & management consulting services firm.

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