12 Seven Days Case Study Presentation
12 Seven Days Case Study Presentation
12 Seven Days Case Study Presentation
• We RECOMMEND doing the deal and acquiring 7 Days Inn for $4.60 per
share (LTM EV / EBITDA of 7.4x) in a leveraged buyout transaction
• Even in our base case scenario, we could achieve a 5-year IRR of 20% and
MoM multiple of 2.5x, and even with more pessimistic assumptions, an IRR
between 15% and 20% is plausible
• 7 Days has the potential to become #1 with several roll-up acquisitions and
its continued success with the franchise model
• Company uses the same management and service levels with its franchised
hotels, giving it an advantage over competitors
• Reality: These factors make a difference, but ultimately the company isn’t
THAT much different from other budget hotel chains (not much of a network
effect because customers still shop based on price)
• L&O hotels will continue to expand modestly, and rising ADRs will offset the
expected drop in Occupancy Rates
• Managed Hotels: Execution may stumble or the company may not be able
to find enough qualified staff, given Chien Lee’s comments:
• Pricing Risk: Expansion into 2nd, 3rd, and 4th tier cities may represent some
risk of falling ADRs
• Debt used is minimal (1.3x EBITDA), but IRRs and MoM multiples are still
healthy, indicating potential to use more debt or do a recap later on
• We believe the company has approximately 256 million RMB (~$41 million
USD) in excess cash that could be used to fund the deal; currently, less
than 50% of this is used to fund the transaction fees
• Business model shift to Managed Hotels makes for less capital-intensive
company and boosts FCF generation significantly, further supporting
capacity for dividend recap and/or additional debt to fund the deal
• Similarly, even if operating costs per L&O hotel increase by more than
expected, the IRR remains reasonable:
• But Home Inns, the closest comp, maintained an 80-90% Occupancy Rate
for the past 5 years
• And the regional average for Asia-Pacific was close to 70%, which reflects
lower rates at luxury hotels:
• So we’re skeptical that rates will drop 70%, though the 75-80% range
seems possible
• Company has no extra cash in this scenario, and debt actually increases by
the end
• But it did have ~2.0 billion RMB of Net PP&E in its most recent fiscal year…
that might increase to ~3.0 billion RMB by FY 17
• Assets minus Liabilities is also around ~2.8 billion RMB by FY 17 in our
model (unclear what Tangible Assets might be)
• Even if we took one of those approaches and liquidated the company, the
IRR would still be negative but at least we could recover ~75% of the initial
equity contribution (due to the post-deal ownership split)
7 Days Inn – LBO Case Study 19
Conclusions
• We RECOMMEND doing the deal and acquiring 7 Days Inn for $4.60 per
share (LTM EV / EBITDA of 7.4x) in a leveraged buyout transaction
• The valuation is very reasonable, the IRR is ~20% in the base case
scenario, and even under more pessimistic cases it only falls to ~15%
• The fast-growing and highly fragmented market supports the deal, as do the
business model shift to franchising and the high equity rollover %
• The biggest risk is if the Occupancy Rate falls from ~80% to 65-70%, but
this is unlikely given the rates at peer budget hotels and historical trends
• And there are ways to mitigate this risk and other possible risks, such as
higher-than-expected growth in per-hotel operating costs
• Using more debt to fund the deal, doing a dividend recap, using excess
cash, or switching to Managed Hotels completely or more rapidly would all
boost the IRR even in these downside cases