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Private equity is losing its enthusiasm for China’s increasingly saturated budget-hotel business, seeking more creative ways to capitalize on the country’s growth in travel and tourism, especially at the higher end of the market. Last month, the Shanghai conglomerate Fosun International Ltd. and AXA Private Equity bid for France’s Club Mediterranee SA , valuing the resort operator at around $720 million. The deal was a clear departure from private equity’s previous approach to travel and hospitality in China, marking the first attempt by a Chinese investor to expand an international resort brand there. While there is room for resorts and more upscale hotels in China, the budget space is growing crowded. China’s three biggest budget-hotel chains—7 Days Group Holdings Ltd Home Inns & Hotel Management Inc. and China Lodging Group , known for its HanTing Hotel brand—were all founded in the mid-2000s and listed in the U.S. following investments by private-equity firms. All three have grown rapidly in recent years, aggressively opening new branches and absorbing smaller competitors. In 2011, for example, Home Inns bought Morgan Stanley ’s stake in Motel 168, which at the time was China’s fifth-largest motel chain by number of rooms. “There’s a concern that there’s been an overbuild in budget hotels,” said Vinit Bhatia, head of China private equity for Bain & Co. “There was a lot of private-equity money going into developing early-stage budget hotel chains, but by now most of these chains have already expanded into the third- and fourth-tier cities.” Bigger budget chains are likely to continue snapping up smaller competitors but growth “looks limited going forward,” said Chien Lee, co-founder of 7 Days. “China is like the U.S. 20 years ago, when all the supply-chain stores took over the mom-and-pop stores and neighborhood stores would disappear every day,” Lee said. Some private-equity investors have placed their bets on higher-end hotel properties, those with three or four stars The Carlyle Group, for example, last year bought a stake in Mandarin Hotel Holdings Ltd., after investing in Hangzhou-based New Century Hotel Group in 2007. Prax Capital invested in Shandong-based hotel and restaurant operator Blue Horizon Group in 2008, and SAIF Partners bought a stake in Shenzhen-based operator Vienna Hotel Group in 2007. At the five-star level and higher, though, China doesn’t yet have its own rivals to international brands such as The Ritz-Carlton Hotel, Hilton Hotels or Starwood Hotels & Resorts Worldwide Inc., which have all carved out space in first-tier cities Shanghai and Beijing. The few Chinese domestic luxury brands that exist operate as individual boutique hotels and have yet to get backing from prominent private-equity firms. That partly reflects how difficult it is to compete with international five-star brands. At the highest end of the spectrum “it’s impossible to create a brand in such a short period of time,” which is why deals like Fosun’s bid for Club Med have emerged, said J.P. Gan, Shanghai-based managing partner of private-equity firm Qiming Ventures. Fosun’s bid for Club Med highlights the conglomerate’s view that the Chinese will be increasingly open to resort holidays as tourism expands rapidly. A Fosun spokeswoman declined to comment, while members of the AXA private-equity team weren’t immediately available to comment. Club Med, which already has two resorts in China, plans to open three more there by the end of 2015, when it expects China to be its second-most important market after France. While plenty of upscale hotel chains cater to business travelers in China, there are few one-stop vacation destinations for families, including beach and ski resorts. Still, despite the shift to higher-end hotel brands, a $688 million deal in September to take 7 Days private reflects investors’ belief that there is value yet to be unlocked in China’s budget-hotel sector. 7 Days, Home Inns and China Lodging all reported robust revenue growth in the first quarter and have seen their share prices rebound dramatically in the last year as investor skepticism toward accounting practices at Chinese companies has subsided. The buyers of 7 Days included the firm’s chairmen and private-equity firms such as Carlyle, Actis Capital and Sequoia Capital. “We’re still looking at consumption as the key driver of growth in China, including investments into the travel sector that can capitalize on the mass market,” said Dong Zhong, Beijing-based partner at Actis. Even so, private-equity firms are under pressure to invest in businesses that offer something new to Chinese consumers. “Private-equity funds are moving beyond the initial hotel and airlines investments to less obvious areas, such as travel agencies, tour operators and cruise ships,” Bain’s Bhatia said. |
