H World Group - Q1 2023

Transcript

Operator (participant)

Good day. Thank you for standing by. Welcome to H World Group Q1 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there'll be question and answer session. To ask a question during the session, you will need to press star one one on your telephone. You would hear an automated message advising your hand is raised. To withdraw your question, please press star one one again. Please be advised that today's conference is being recorded. I'd now like to hand the conference over to the IR Director, Mr. Jason Chen. Please go ahead, sir.

Jason Chen (IR Director)

Thank you. Good morning and good evening, everyone. Thanks for joining us today. Welcome to H World Group 2023 Q1 earnings conference call. Joining us today is our founder and chairman, Mr. Ji Qi, our CEO, Mr. Jin Hui, our CFO, Ms. He Jihong, and our president, Ms. Liu Xinxin. Following their prepared remarks, management will be available to answer your questions. Before we continue, please note that discussion today will include forward-looking statements made under the safe harbor provision of the United States Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, our results may be materially different from the views expressed today. A number of potential risks and uncertainties are outlined in our public filings with the SEC. H World Group does not undertake any obligations to update any forward-looking statements, except as required by applicable laws.

On the call today, we will also mention adjusted financial measures during the discussion of our performance. Reconciliations of those measures to comparable GAAP information can be found in our earnings release that was distributed yesterday. As a reminder, this conference call is being recorded. The webcast of this conference call, as well as supplementary slide presentation, is available at ir.hworld.com. Now I will hand over the call to our CFO, Ms. He Jihong, for opening speech. Ms. He, please.

He Jihong (CFO)

Good morning, good evening, ladies and gentlemen. Thank you for joining our Q1 2023 Earnings Call today. With the reopening in China, we have experienced a very positive growth in the Q1 2023. Our franchisees are rebuilding their confidence and accelerated investment in new hotels. After COVID, we observed people in China are willing to expand more experience-related activities, like travel, similar to what happened in the rest of the world. In a nutshell, we had a very good start in this year, and we're very happy to report a strong performance in the Q1 2023. Mr. Jin Hui, CEO of H World Group, will highlight the key achievements in this quarter, followed by elaboration of financial performance. As always, we will have a Q&A session after management presentation. With this, I now hand over to Mr. Jin Hui.

Jin Hui (CEO)

Thank you, Jihong. Let's firstly turn to page three to review our RevPAR recovery in the recent months. Overall, RevPAR has been trending up since the reopening in November last year. Our legacy Huazhu blended RevPAR in January, February, March, and April recovered to 96%, 140%, 120%, and 127% of 2019 level, respectively. The RevPAR recovery in the Q1, and especially in February, was largely driven by the pent-up demand. While we are glad to see the strong rebound in traveling demand leading to a faster RevPAR recovery, we believe it is more important for us to continue enhancing our core competencies in order to achieve sustainable long-term RevPAR growth. Please turn to page four. We believe our sustainable long-term RevPAR growth will be driven by three key aspects....

Firstly, our organizational restructuring and optimizations. The establishment of our regional headquarters enables more localized and efficient operations, as well as achieving further market penetration and the synergies in each region. Secondly, lower tier cities in China still appear a plenty of growth opportunities, especially considering the local residents' rising spending power, supported by high economic resilience. Thirdly, we will continue our efforts on further products and service upgrade and improvements in order to achieve a higher price premium.

[Foreign language]

Speaker 10

As we discussed in our last quarter's Earnings Call, the sustainable quality growth is our core strategic focus in 2023. Under this core strategy, we will focus on three key areas. First is on our high-quality hotel network expansion. Please turn to page five. In the Q1, excluding the soft economy hotels, we signed up 617 two new hotels during the quarter, up 26% year-over-year, which reflects our franchisees' confidence level is gradually improving in the Q1. During the same period, we opened 262 new hotels, which was slightly down year-over-year, mainly due to COVID impact.

On the hotel closure front, we closed a total of 209 hotels in the Q1, including 122 inferior economic softer brands and HanTing 1.0 version hotels to further improve the quality of our entire hotel portfolios. As we mentioned in the last quarter, some hotel closure processes were uncompleted in the Q4 2022 due to COVID impact, and therefore were delayed to this year.

Jin Hui (CEO)

[Foreign language]。

Speaker 10

Please turn to page six. We continued implementing our lower tier cities penetration strategy. As of March 2023, we have a total of 8,464 hotels in operation, of which 39% were in the lower tier cities, up two percentage points year-over-year. We have 2,304 hotels in the pipeline, with lower tier cities contributing around 56%, up 1 percentage point year-over-year. The number of city coverage for both hotels in operations and in pipeline increased to 1,132 cities, compared to 1,089 cities a year ago.

Jin Hui (CEO)

[Foreign language]。

Speaker 10

Our second strategy is to further breakthrough in the midscale and upper midscale segment. Please turn to page seven and page eight. For our midscale segment, we launched Orange Hotel 3.0 version, with the orange as the theme color, emphasizing the concept of LOHAS, meaning lifestyle of health and sustainability. Orange 3.0 version brings together the healthy, vitality, and environmental sustainability. Every detail in the hotel conveys the idea of an environmental friendly and sustainable lifestyle. For example, every kind of material we used in hotel renovation and the consumable products we provided to our guests in the hotel room are all degradable and renewable. In summary, our new Orange Hotel 3.0 version express a positive and happy lifestyle, and pursue a concept of green and environmental friendly. It provides a more energetic, sunny, and fresh accommodation experiences to our customers.

We believe our new Orange Hotel is well positioned to meet younger customers' demands on nice design, experiences, and vitality, becomes a good complementary product to our JI Hotel. We believe the Orange brand should further enhance Edgewater Group competitiveness in the midscale hotel segment. Please turn to page nine and 10. In the upper midscale segment, we successfully introduced the DH's Intercity brand to China. We recently opened four new Intercity hotels in Wuhan, Zhengzhou, Shenzhen, and Shanghai. These grand openings are very important steps for Intercity's future scalable development in China. Intercity hotels in Germany mainly targets and service business traveler, who frequently travel between cities. The hotel development is closely aligned with the railway development process in Europe, covering major transportation hubs in Europe.

In fact, development in China market is always our key focus in introducing Intercity brand in China market well reflected. As our Chairman, Mr. Ji Qi, once said, "We are not simply introduce the German brands to China. Instead, we are interpreting the German brands in China." Therefore, Intercity brand in China not only integrate the European features, but also conduct the local brand evolutions and observation on consumer behavior to refine the Intercity brand DNA, which is offering the ultimate business travel experiences from German features of efficiency, quality, and safety. In China, Intercity hotels will be mainly located in major commercial centers and transportation hubs. The theme color of the hotel room is black and white and gray, and the design is very simple but highly functional.

With the Intercity brand, we aim to provide Chinese new generation business travelers a better experience with high quality stay, workspace, service, and food. Our third strategy is to further upgrade and strengthen our organizational and digitalized operational capability. Please turn to page 11. We have always put great emphasis on membership program development and the direct sales capabilities. We are very pleased to see our Huazhu app and Huazhu mini programs, daily active users in the Q1 of 2023 increased by two times and three times compared to the Q1 of 2019, respectively. In addition, our direct booking through our CRS system reached a record high of 62%, up 15 percentage points compared to the Q1 of 2019.

It is worth noting that our CRS contribution includes bookings through our own channels only and excluding contribution from OTAs and other third-party distribution platforms.

Jin Hui (CEO)

[Foreign language]。

Speaker 10

Here concludes our business review and update for the Q1 of 2023. With that, I will now turn the call over to our CFO, Ms. He Jihong, to discuss our financial performance for the quarter.

He Jihong (CFO)

Thank you, Jin Hui. I'm now going to elaborate the key financial achievement in this quarter. Please turn to page 13. Our hotel network continues to expand. In Q1 2023, the number of rooms achieved 7% growth compared to the same period last year, and it stands at 820,099 rooms. Hotel turnover achieved 71% growth compared to Q1 2022, and it stands at more than RMB 16 billion. Please turn to page 14. Legacy Huazhu blended revenue recovered to RMB 210. This is 18% increase compared to the Q1 2019, and 58% compared to Q1 2022.

The revenue growth, the RevPAR growth is largely driven by ADR increase, which shows a 25% compared to the Q1 2019, and 24% compared to Q1 2022. Our average occupancy rate stands at 76% in this quarter. Please turn to page 15. Legacy DH blended revenue recovered to EUR 55. This is an increase of 66% compared to Q1 2022. The recovery is driven by both ADR and occupancy. As Q1 2022, we still face a quite heavy COVID impact in many countries where DH operates. Please turn to page 16. H World revenue grew to RMB 4.48 billion in Q1 2023. This is an increase of 67% compared to Q1 2022, slightly above our guidance.

Legacy Huazhu revenue grew 58% year on year to RMB 3.59 billion, and the legacy DH revenue grew 818% in the same period, achieving RMB 886 million. This reflects the RevPAR recovery trajectory, thanks to the reopening of China and the rest of the world, continued product upgrade, as well as the market penetration and synergy achieved through regional offices in China. Please turn to page 17. Our operating income in the Q1 2023 grew to RMB 664 million, compared to a loss of RMB 780 million in Q1 2022. Legacy Huazhu achieved RMB 822 million, turning into positive territory compared to a loss of RMB 416 million in the Q1 2022.

Legacy DH still made a loss in the Q1, 2023, but it narrowed its loss by RMB 114 million compared to the same period last year. As a group, we maintained total SG&A cost at 13.8% of our total revenue, with China at only about 12% in the Q1. We are very disciplined about our SG&A cost as a percentage of our revenue, and it is under our close monitoring constantly. In Germany and the European countries, we need to cope with cost in an inflationary environment, which has some impact on our profitability. Please turn to page 18. In the Q1, 2023, our adjusted EBITDA recovered to RMB 1.65 billion. This is a significant increase from a negative RMB 333 in the Q1, 2022.

This adjusted EBITDA includes around CNY 500 million gains from the sales in our treasury shares in the Q1. Adjusted net income was CNY 1 billion in this quarter, compared to negative CNY 662 million in the same period last year. The strong EBITDA and the net income performance are mainly contributed by recovery of Chinese business. Operating cash flow stands at CNY 1.84 billion, a strong increase compared to cash outflow in the same period last year. Please turn to page 19. Our liquidity position is quite strong. As of March 31, 2023, we have a net cash of CNY 957 million. Our cash balance stands at CNY 10.4 billion. We have an unutilized bank facility at CNY 2 billion. Please turn to next page.

Our revenue guidance for Q2 2023 is 51%-55% growth compared to Q2 2022. Excluding DH, the revenue of Legacy Huazhu is projected at a growth rate of 64%-68%. This implies our RevPAR guidance announced early this year remains unchanged. We are confident about the market recovery and the performance for the rest of this year.

Jason Chen (IR Director)

Yeah, thanks, Ji Hong. Now we can open for the Q&A session. Operator, please.

Operator (participant)

Certainly. As a reminder, to ask a question, please press star one one on your telephone and wait for your name to be announced. To withdraw your question, please press star one one again. Please stand by while we compile the Q&A roster. Once again, that's star one one for questions. Our first question comes from the line of Ronald Leung from Bank of America. Please go ahead, Ronald.

Ronald Leung (VP)

Hey. Hello, good morning, management. Hey, thank you for taking my question.

[Foreign language]. Hi, good morning, management.

Let me ask my questions in English. My first question is what is management expectation for RevPAR recovery in the Q2? The second question is about the supply outlook for the hotel industry. The RevPAR recovery has been solid. Some franchisees or hotel owners are planning to reopen their hotels in the upcoming year. Do you expect the increase in the hotel supply will hurt the RevPAR recovery? Thank you very much.

Jin Hui (CEO)

[Foreign language]

[Foreign language]。

Speaker 10

Okay. Thank you. Firstly, I will answer the first question. For the revenue guidance for the Q2 of this year.

It implies the RevPAR, a blended RevPAR recovery compared to the same period of 2019, which is in the range of 110%-115%, which is in line with our annual guidance in terms of the RevPAR recovery. For the second questions, yes, for the Q1, we are observing some of the supply gradually increase, but in a relatively slower paces. Given the recent macro conditions as well as the property market cyclical issues, we are not seeing a large increase in the supply, at least in the short term.

Secondly, even though we are seeing some of the supply is gradually coming back into the market, but the clear trend is the branded hotel penetration or the chain ratio continuously improved. This is actually in keep the main thesis of the market unchanged. Certainly in terms of the competition, we think the competition is always there, no matter before or post COVID. For us, we will continuously emphasize on building up our core competencies through improve the branding, products and service, as well as our organizational capability to increase our entire competitiveness in the market. Thank you.

Ronald Leung (VP)

Thank you very much.

Operator (participant)

Thank you. Our next question comes from the line of Sijie Lin from CICC. Please ask your question, Sijie.

Sijie Lin (Analyst)

[Foreign language] I'll translate my questions into English.

My first question is a follow-up question on RevPAR recovery. Do we think the current ADR-driven recovery is healthy and sustainable? Will the gap in OCC recovery, especially for business demand, exist for long? My second question is that, what's the pace of hotel new signings and the franchisee sentiment in Q2 after they saw Q1's recovery? Thank you.

Jin Hui (CEO)

Okay, [Foreign language]

Speaker 10

Okay, now I will answer the first question in terms of the RevPAR. Clearly RevPAR is a combination of the ADR and OCC. In terms of the ADR, undeniably, you know, in the Q1, I think the RevPAR recovery was mainly driven by the ADR, and this is actually, you know, very much in line with the entire global lodging market recovery post the COVID. This is somewhere reflects the higher spending capability as well as the impact of the inflation. I think, well, relatively, I think the ADR growth at this moment is still quite healthy.

Again, we observed that especially in the leisure market, people are, you know, becoming more willing to pay a premium for a good quality products and good services, and this will support the ADR growth. In terms of the business traveling, yes, the demand for the business traveling still have some gap compared to pre-COVID. According to some of the, you know, public study, we are expecting the business recovery, business traveling will be fully recovered to the pre-COVID level in around 2024. Therefore, as a group, we will be planning according to this trend.

Jin Hui (CEO)

[Foreign language]。

Speaker 10

Okay, in terms of the franchisees' confidence, after the three years of COVID, we think our existing franchisees are becoming more stable and more matured, and they have a better knowledge in terms of the volatility and uncertainties. We think they are very stable at this moment, and the confidence is gradually improving as well. We are also very happy to see, especially in the lower tier cities market, we have a lot of, you know, new franchisees joining us, and those franchisees might not be, you know, previously in the hotel industry. Some of them are, you know, the local property developers or some of them are from some other industries who are willing to join us. Thank you.

Sijie Lin (Analyst)

Thank you, management.

Operator (participant)

Thank you. Next question comes from the line of Lydia Ling from Citi. Please go ahead, Lydia.

Lydia Ling (Director Equity Research Consumer Sector)

Thank you.

[Foreign language] Hi, management, I'm Lydia from Citi.

Here I have two questions. The first one is on your overseas business. DH business actually is doing some loss-making in Q1. Want to check with management, your view on the DH, any outlook for full year, and also how to further narrow the loss, and also any updates on the integration of DH business. My second question is on the RevPAR growth. What's your view on your sustainable long-term RevPAR growth looking forward? Thank you.

He Jihong (CFO)

Okay, thank you, Lydia. This is Jihong. I'm going to answer your question first about the DH business. Q1, you see a loss, it's because of the seasonality. We all understand that, especially European countries, the seasonality is quite strong and volatile. In the Q1, the revenue was lower due to the seasonality and at the same time, because of the, also of the energy cost, we and the inflationary environment increased our cost. For the whole year, we are very confident that we will continue to increase our performance on the revenue side and continue to control our cost. We are confident that for the whole year, our EBITDA will come back to the positive territory.

The second question, regarding the RevPAR. You can observe from the history of Huazhu, we have been improving RevPAR year by year. This is not only the same store, but also the product upgrade and the product mix as well. Typically, companies RevPAR will grow with the economic growth as well. For the past several years and we are confident that in the future, our RevPAR will continue to grow with the bigger economic environment.

Lydia Ling (Director Equity Research Consumer Sector)

Thank you.

Operator (participant)

Thank you. Our next question comes from the line of Lena Yen from HSBC. Please ask your question, Lena.

Lena Yen (Financial Services Assistant)

[Foreign language].

Jason Chen (IR Director)

Hi, Lena, can you translate yourself?

Lena Yen (Financial Services Assistant)

yeah, I will translate my question myself. First question is on the RevPAR drivers, especially on the pricing power for the ADR. We have seen very strong ADR increase in Q1, driven by inelastic demand. Going forward, we will see the supply demand gap to narrow. Also the spending power is not as strong as the economy has shown. Also management guided RevPAR in Q2 will be 110% and 115% of 2019 level. Does that imply management also see like a weakening trend in ADR? Or what kind of change in the mentality of the ADR trend like going forward?

Second question is on the impact of portfolio upgrade on RevPAR. Management mentioned it like a key driver for RevPAR as well. Can you quantify the impact, for example, like the percentage of like hotels upgraded in our portfolio versus 2019? What is the impact to the RevPAR growth versus 2019. Third question is, you commented business travel hasn't recovered to 2019 level, but can you give us more details on the like recovery in business travel like even year-on-year or versus 2019? Yeah, that's my question. Thank you.

Jin Hui (CEO)

[Foreign language] ......

[Foreign language]。

Speaker 10

Okay, thanks. Okay, thanks for your questions. Yeah, we understand that quite a lot of you are concerning about the RevPAR and the ADR.

That's why I would like to elaborate a bit more details and express and emphasize on our views again by taking this opportunities. For us, since the year beginning, during our budgeting process and during our first, during our annual last year earnings conference call, our views keeps with the cautiously optimistic unchanged. I hope you can understand this. Our views has been no change since then. In terms of the RevPAR and ADR, I think it is a quite complex combination, especially for us. Talking about the China market, we have the lower tier cities, we have the leisure market, we have the upscale, we have the upper mid and midscale. It's very diversified market.

Undeniably, talking about the business traveling, given the impact of the economic cycle, some of the business traveling demands are not fully coming back yet, but we do see a lot of, you know, local demand, especially from the leisure traveling demand side, is quite strong since the year beginning to now.

You can also realize that that's a lot of, you know, activities happening here and there, such as the barbecue events in Zibo and the festival in [Foreign language], which is also supported by the government on the leisure traveling activities. Another front is if you're looking at the until recovery in April, we observed that that airline business actually is not fully recovered. If you're looking at the railway, I think they are very much well recovered or even exceeded the 2019 level, supporting a quite strong traveling demand as well. Fo

Jin Hui (CEO)

[Foreign language]。

Qi Ji (Founder and Chairman)

[Foreign language]。

[Foreign language] OK。

Speaker 10

Yeah, because China experienced the three years of COVID, obviously, you know, at the initial reopening, especially in the Q1, definitely there are some a lot of, you know, kind of demand. People are, you know, keen to traveling and keen to go outside, the businessmen and the franchisees are keen to, you know, resume the business as quick as possible. Definitely the confidence and the consumption power at this moment was quite strong. The recent, you know, basically the some of the gap or some of the slight slowdown recently, we think it is quite normal if you compare to the global market, because we traveled quite a lot to Europe.

If you see, you know, the Europe recovery, currently, it's not as strong as before, and especially considering China experienced the three years of COVID, but I think Europe market experienced only one half years. We think we should give the market a bit patient, patience in terms of the sustainable recovery, going forward. As Jin Hui mentioned before, we observed actually the airline, the occupancy rates for the airline is not recovering to the pre-COVID level, but, you know, the railway station is performing very, railway business is recovering very well, and we're still seeing a lot of, you know, traveling demands here and there.

We didn't see any statistic on the self-driving traveling activities, but we strongly believe it should be quite strong. Therefore, no matter during the COVID or post-COVID, we're still seeing that people are keen to, you know, traveling around, no matter on the leisure or business sides. In a longer term, we think the hotels with relatively lower price will be more resilient, no matter during COVID or financial crisis or any other crisis condition. Basically, talking about the like, for example, the economic segments will be more resilient compared to the upscale. The recent consumption trend was very interesting.

Taking the barbecue events in Zibo as an example, we observed that people are, you know, generally wants to spending a little bit money and to buy a big happiness, and people who are willing to spend a big chunk of money at this condition, under this condition, are not very, very high. Therefore, we think the upscale segments will be taking even longer time to recover. For us, we are not only caring about the ADR, we care more on building up a core competencies and the entire ecosystem. And, you know, we want to provide the benefits to all our partners, no matter our customers and franchisees, in our ecosystem, and everyone will be getting benefited.

We think we should be a little bit patient for the long-term growth potential for the entire lodging market. We are not, you know, only striving to, you know, increase the ADR, and, you know, because, you know, it is also very difficult to expect ADR or predict the ADR trends in the future, because there's a lot of, you know, factors can affect the ADR movement. Thank you.

Operator (participant)

Right. Thank you. Our next question comes from the line of Sing May from Huatai. Please go ahead, Sing.

Sing May (Analyst)

Good morning. Hello. Thanks for this opportunity. I have a question about the company's organizational structure. Can you explain, how the operational organization structure that we implemented over the past one or two years, have we encountered any problems in the process? How the company will solve them? How does our organizational structure support the development of some newer, especially unique mid-scale and upper mid-scale brands, such as our Orange 3.0 and our Intercity Hotel? Thanks for the opportunity. Can you explain how the organization structure supports the development of the new brands, such as Orange 3.0, or Orange Crystal Intercity Hotel? Are there any problems in the operation of this organizational structure? How can the management solve them? Thank you.

Jin Hui (CEO)

I'm glad someone brought up the issue of organization. Let me correct it. Until today, it has been exactly one year since Huazhu's organizational restructuring. Yes. After a year of pilot, we have achieved, it should be said, that today's many improvement in business results, are also attributed to the optimization and upgrading of our organization.

Qi Ji (Founder and Chairman)

I want to mention the original intention of the organizational upgrading of our six operating companies. Because Huazhu has divided the future core strategy into several segments. In the past, Huazhu's performed very well in limited service hotels. Our strategy is to achieve deep roots in China through organic growth.

In China, last year, we established six operating companies to achieve further deep roots in China, to further get closer to our suppliers, closer to our customers, improve our operational efficiency, improve our operational costs, and those kinds of course, improve the ability of organic growth in the region. It should be said that we have achieved very good results in the limited service market. If there are shortcomings, it is that in our entire transformation, the cultivation and growth of our talent pool in these provinces needs time, it needs to give them more time and training opportunities. This part of the ability is also in the process of continuous consolidation. The third issue is actually the relationship between the regional company of limited service and the breakthrough of the upper mid-scale.

Jin Hui (CEO)

The upper mid-scale business department is another organization we have established, which is mainly a vertical management model of the brand. Such an organizational form is different from the limited service market. The coordination between them is limited. Our operating regional companies, at the same time, promote the development of our upper mid-scale hotels, but do not participate in the management. The management is still dominated by the upper mid-scale brand business department, and expects to improve our upper mid-scale strategic breakthrough through brand strategy and service experience strategy. This is the relationship between the two organizations. If you want to ask about the performance of the regional operating companies of limited service hotels, I am very happy to tell everyone, it should be said that we have made very good progress. Of course, we still have room for further improvement in talent and organizational capabilities.

Sing May (Analyst)

Thank you.

Speaker 10

Thanks for your questions. I'm very glad to you ask about our organizational restructuring. Firstly, I would like to clarify. It is just one year since we conducted our organizational restructuring since last year. I would elaborate more on the purpose of building up these six original headquarters. As you may know, that one of our core strategy is to, you know, you know, is to fully penetrating in China market in the limited service segment, together with our, you know, sustainable quality growth strategy. By doing this, by setting up these six regional headquarters, we are very happy to see a very initial good outcomes over the last year.

you know, the regional headquarters are more close to our franchisees and customers, and achieving a higher operational, you know, optimization as well as the synergy. In talking about the upper mid segment, so basically, the upper mid segments or upper mid brands are still using the vertical organizational structure. The regional headquarters will help or support the upper mid-segment in terms of the development, but the management will be remain within each of the brands and in the headquarter.

Talking about some challenges, currently, we still think, I think in terms of the talent reserve is not still enough, but we think it's gonna take some to further building it up. Thank you.

Operator (participant)

Thank you. I'm showing no further questions. I'll now turn the conference back to the management team for closing remarks.

Jason Chen (IR Director)

Thank you everyone for taking your time with us today, and we look forward to see you in upcoming quarter. Thank you. Bye-bye.

Operator (participant)

This concludes today's conference call. Thank you for participating. You may now disconnect.