SINGAPORE (June 18): UOB Kay Hian is initiating coverage on ARA US Hospitality Trust (ARAUS) with a “buy” recommendation and a target price of US$1.15, representing an upside of more than 33% from its current price.

Lead analyst Jonathan Koh sees ARAUS, with a portfolio of 38 hotels under the Hyatt Place and Hyatt House brands, as a pure play on upscale select-service hotels.

Upscale select-service hotels offer only selected facilities and services instead of the full suite of services provided by full-service hotels.

ARAUS’ 27 Hyatt Place-branded properties are select-service hotels, while the remaining 11 Hyatt House-branded properties are extended-stay hotels.

“Upscale select-service is the sweet spot with higher margins and a faster pace of growth,” Koh says in a report on June 14.

“Revenue mix is geared towards higher-margin room revenue while labour cost is minimised. Having a lean cost structure means that select-service hotels have higher and more stable margins,” he explains.

According to CBRE, select-service hotels have a projected 4-year CAGR of 2.0% for revenue per available room (RevPAR) from 2019 to 2022, compared with just 1.3% for full-service hotels.

Further, Koh notes that ARAUS has been able to achieve higher RevPAR than its US select-service peers.

With higher occupancy of 77.1%, ARAUS registered RevPAR of US$94 in 2018, compared to its peers’ RevPAR of US$82.

And it is not about to rest on its laurels. According to Koh, ARAUS will be embarking on asset enhancement initiatives to achieve even higher RevPAR.

“ARAUS will refurbish selected hotels in a staggered manner to improve the image and marketability of the hotels,” says Koh. “Management will identify projects with positive returns, which include reconfiguring guestrooms and creating new leasable areas within the hotels.”

At the same time, Koh believes ARAUS will grow and diversify its portfolio through acquisitions.

“It seeks to expand into under-represented markets, such as the western region, and also selectively acquire other premium branded select-service hotels, such as Hilton and Marriott,” Koh says.

The way Koh sees it, ARAUS provides attractive distribution yields of 5.2% for 2019, or 7.8% on an annualised basis, and 7.9% for 2020.

Yield spread is also lucrative at 3.1% for 2019, or 5.7% on an annualised basis, and 5.8% for 2020 – above the US 10-year government bond yield at 2.1%.

“We forecast revenue to grow 7.3% and distributable income to grow 6.2% in 2018-20,” Koh says.

As at 1.17pm, units in ARAUS are trading 0.6% down at 86.5 US cents. This implies an estimated price-to-earnings (PE) ratio of 31 times and a dividend yield of 7.9% for FY20F.