Deep-dive 2021-4: Ichigo Hotel REIT Investment Corporation
Ichigo Hotel REIT Investment Corporation (3463 JP) is a Japanese hospitality REIT run by American hedge fund manager Scott Callon. It invests in lodging-focused hotels in major cities across Japan with a major focus on tourism.
The REIT was formed by sponsor Ichigo Inc, an asset management company run by Callon after he took over the company in 2008. Ichigo now manages three REITs: Ichigo Office, Ichigo Hotel and Ichigo Green. Ichigo's business model is to acquire assets at a discount using low-cost debt and then improve the assets over a period of 2-3 years. Callon has a reputation for treating minority shareholders well. Ichigo Hotel REIT is unusual among Japanese hospitality REITs in that it does not engage in empire building. The share count has been stable over the past few years and Scott Callon has said that he is not willing to issue new shares below book.
The assets themselves are of decent quality. They are well managed budget hotels relying on online travel agents for room distribution. Hotel review scores on Booking.com are high across the board.
Part of the attractiveness about Ichigo Hotel REIT is the borrowing cost of 0.8%. Smaller developers or property managers do not have the ability to finance acquisitions at 1%. There is still borrowing capacity before hitting the self-imposed target of 60% LTV. While there is a certain amount of leverage in the business, banks tend to be supportive and the REIT is not facing any major maturities before FY2023/24.
The financials have been hit hard by COVID-19 related lockdowns and travel restrictions. Occupancy was temporarily down over 50% with room rates down a third as well, before recovering in mid-2020. The Japanese government's "Go To" travel subsidy program that was launched in July 2020 helped the industry recover, but the number of nights stayed across the industry is still down by over 30% vs 2019 levels.
Domestic tourism in Japan will gradually recover throughout the next 4-6 months as Japan's population gets access to vaccines for COVID-19. If Tokyo Olympics goes ahead as planned in July / August 2021, then that would be an added bonus for the business. International tourism will take longer to recover but should recover almost fully by FY2023.
Ichigo Hotel REIT's stated NAV/share is around JPY 133,000. Conservative calculations put the NAV/share at JPY 139,000, implying a theoretical upside to NAV of +60%. The two major uncertainty factors are how fast RevPAR can recover, as well as the cap rate used to capitalise property-level NOI. Transactions prior to COVID-19 were done at cap rates well below 4%. Over the past half-year, cap rates have been closer to 5.5-6.0%. The calculated NAV assumes that hospitality asset cap rates will eventually reach the 5% level. Such NAV implies a P/FFO of about 16x, P/B of 1.1x and a dividend yield of 6.4%.
Potential catalysts include Japan's COVID-19 vaccine roll-out, Tokyo Olympics, cross-Asian travel restrictions easing and the potential for the Bank of Japan to acquire REITs using its own balance sheet.
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