Hospitality is an industry we’re all familiar with, but this doesn’t mean it’s without its challenges. It’s a notoriously tough sector to be in. Staff turnover can be high, guests expect high standards, and rising costs are testing even the biggest players.
Let’s look at the challenges the industry faces, and the things I look for in a great hospitality business when making decisions for the HL Select range.
This article isn’t personal advice. If you’re not sure what to do, ask for financial advice. All investments fall as well as rise in value, so you could get back less than you invest.
The information provided is the fund manager’s view and not individual stock recommendations.
Challenges of the hospitality industry
One of the greatest challenges is the on-demand nature of the businesses. That meal you ordered isn’t a lot of use if it’s served up four hours later. Tables and rooms must be sold again and again. If they are left empty for a night, there’s no getting the lost income back.
Another hurdle is that it's difficult to create intellectual property in hospitality.
There are a handful of cases that have overcome this, with hotels like the Ritz or Savoy that are national icons. But generally, this leads to high streets which are full of lookalike bars and pizza joints. Without clear differentiation, it's hard to create sustainable, premium returns on investment.
No matter how well a hospitality company plans, there’ll always be factors they can’t have anticipated. In my career, I’ve seen the sector navigate recessions, terrorism, fashion swings and riots.
The most notable example recently was the pandemic, causing much of the industry to shut their doors for months.
When they could reopen, it was far from back to normal. Even now, the industry is trying to get back on its feet after the disruption.
To rent or own?
Hospitality can be a high-risk business, so financial strength is important. This is being tested now more than ever. With interest rates at a 14-year high, this puts leveraged operators under ever greater pressure.
Some companies choose to keep debts low by leasing properties. But this isn’t always the answer to lowering risk. It simply leads to swapping interest for rent. Fail to pay either and the result is pretty much the same.
Controlling risk often means ownership of the buildings they operate from. Players like Fullers, Smith & Turner or Young & Co own a substantial proportion of their pub freeholds. Others, like the privately operated Stonegate are heavily reliant on external finance. Simply servicing their creditors must be a major undertaking for Stonegate, as their debts are seen as higher risk by credit rating agencies.
InterContinental Hotels Group has spent the last few decades de-risking its business model in a different way. They've sold most of the hotels they used to own but have kept the brands and booking system. Now, hotel owners run their properties under InterContinental's brand and pay them fees to do so.
The benefits of taking less risk
These businesses have spent a lot of time thinking about the risks they face and evolving their business models over time. By doing this, they have limited their risks and optimised returns.
I think this is an attractive characteristic to find in a company. Businesses that think this way are more likely to stay out of trouble and to have a Plan B ready if needed.
There's no surprise that Fullers, Smith & Turner, Young & Co, and InterContinental Hotels Group have all outperformed the broader Leisure sector over long periods of time. They haven’t chased growth. Rather, they have planned for it. But as always past performance isn’t a guide to the future.
It has never been fashionable to go to a Young’s or Fuller’s pub or stay in a Holiday Inn. But people go to them again and again because they've made sure they offer lasting appeal and value.
Whatever industry I’m researching for our HL Select funds, I always look for companies that can reasonably claim to oversee their own destiny. That means having bullet-proof balance sheets, strong risk controls and operational skills.
Steve Clayton is a Fund Manager of the HL Select range of funds.
The HL Select funds are run by our sister company Hargreaves Lansdown Fund Managers Ltd.
This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research however Hl has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our for more information.
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