Making new connections: Increased traffic from emerging markets helps to buoy the industry

As South Africa’s visitor numbers pick up, revenues are returning to a tourism industry that suffered a post-World Cup dip compounded by the effects of a tough global environment. Tourism performance, particularly in the higher-value segment of the market, remains somewhat muted – however, as traditional target markets continue to slow, the visitor mix is beginning to shift subtly. As such, businesses will have to develop new strategies to cater to the changing visitor dynamics in the market.

Centre Stage

The government’s development plans have placed tourism at the centre. Bernhard Meyer, chief director of research and knowledge management at the Department of Tourism, told OBG, “Tourism is a very valuable export sector, and it is becoming more and more recognised by the Treasury and the president.” Indeed, in 2012 South Africa ranked at 28th in the world in terms of the absolute size of tourism’s relative total contribution to GDP. According to the National Tourism Sector Strategy of the Department of Tourism and South Africa Tourism, the governmental promotion body, the government is seeking to increase tourism’s contribution to the economy, both indirect and direct, from a 2009 baseline figure of R189.4bn ($23bn), or 7.9% of GDP, to R499bn ($60.8bn) by 2020.

Tourism also contributes a significant amount to national employment. According to official statistics provided by the Department of Tourism, the industry supports nearly one in every 10 jobs in the country. In 2012 travel and tourism directly supported an estimated 619,500 jobs in the country, or 4.6% of the total workforce. If jobs indirectly supported by the travel and tourism industry are included in this figure, the total rises to 1.4m jobs or 10.3% of overall employment in the country.

Industry Sentiment

Despite challenges, the hospitality sector seems largely positive about new target markets and the potential for growth in the industry as a whole. According to Brian Davidson, group sales and marketing director of Legacy Hotels and Resorts, “The market has now caught up with the massive growth in rooms.” This assessment that supply and demand are now in balance, setting the foundation for rate growth in the next 12 months, is largely shared by the wider industry. The latest Tourism Business Council of South Africa (TBCSA) and First National Bank tourism index, a quarterly survey that measures sentiment in the sector, shows the mood in the industry becoming more optimistic. In the fourth quarter of 2012, the index outlook reached 104.6, against a normal baseline of 100. This was up from 101.1 in the previous quarter and well above the index score of 87.3 in the same quarter of 2011. Indeed, the index has been steadily climbing throughout 2012 as confidence returns to the sector.

In a statement accompanying the release of the index, Mavuso Msimang, board chairman of the TBCSA, said, “This is the second consecutive quarter that the Tourism Business Index has recorded performance levels above the norm and is a clear indication of the extent to which business is recovering from the recessionary impacts and excess of supply it suffered post the 2010 soccer World Cup.” The forecast for the first quarter of 2013 on the index is 102.4.

Catching Up To Expectations

The country is, to some extent, still feeling the effects of the postWorld Cup hangover. “We came from the biggest event in the country’s history and the expectation that it created,” Eddy Khosa, chairman of the Federated Hospitality Association of Southern Africa, told OBG. “It didn’t materialise the way we thought it would.” The sector has begun to stabilise and rebound. Khosa says that while the World Cup “left us with a lot of inventory”, rates and occupancy are beginning to return. “As a build-up to 2010, we saw new brands coming in, but we also saw restructuring of existing brands. Some hotels were repositioning themselves and moving from two-star to five-star, for example. I think we had a perception of oversupply at the top of the market after 2010, but that’s stabilised now,”

Challenging international and domestic economic conditions have been placing a burden on the sector and slowing growth. Europe, which provides the bulk of South Africa’s high-spend, long-haul tourists, is going through a prolonged period of depressed growth and austerity. “It remains a tough environment. The declines seen on 2010 and 2011 were driven by a combination of oversupply and more importantly a lack of demand because corporates stopped spending,” Marcel von Aulock, the CEO of hotel and entertainment group Tsogo Sun, told OBG. “Business travel drives the South African hotel market. We have seen some recovery and are definitely in a better place now, but corporate travel remains subdued as business confidence is still low.”

Signs Of Recovery

Nonetheless, several analysts remain bullish about the direction in which the industry is travelling and point out the important rebound in business tourism in the last 12 months. “The situation is much better now. The rates have definitely improved as well as revenues per available room (revPAR),” Martin Jansen van Vuuren, director of consultancy Grant Thornton, told OBG. “We’re starting to get back to the previous levels [of the World Cup]. It’s slow and steady, but there’s improvement.” The strongest evidence of recovery may be the in the business segment, as Sandton in Johannesburg, the country’s business tourism centre, is performing well.

In this area, as well as the business centres of Durban and Cape Town, room nights sold have caught Accommodation for foreign tourists, Q3 2012 up with the excess supply and recovered. Occupancy in the Sandton area now tops 60% and for the five-star classification as a whole, also stands at nearly 60% for the last 12 months. According to Davidson, this segment “is getting a lot more support from India and East Asia.” In Sandton, daily room rates in the five-star segment increased by 5.4% in 2011, while for the country as a whole they grew by only 1.9%, according to data taken from the STR global hotel survey. Across all classifications the growth in daily room rates was 3.8%. revPAR in the five-star classification has grown by more than 15% in Sandton in 2012 and at 9% in Cape Town as a whole.

This suggests an industry moving in the right direction. General visitor and tourism figures tend to bear this trend out, although they do point to a more mixed performance. In 2012, tourist numbers in South Africa increased by 10.2% over 2011, reaching 9.18m visitors, well above the global growth rate of 5%, according to South African Tourism. While total direct foreign spend (excluding capital expenditure) was up by 6.1% to R76.4bn ($9.3bn) in the same period, the estimated spend per foreign tourist was down from R8900 ($1084) to R8700 ($1060). As well as this decrease in spending, the average length of stay also declined – dropping from 8.3 nights in 2011 to 7.7 nights in 2012. This fall was even more drastic for visitors arriving by air, falling from 17.6 nights to 13.4 nights.

Emerging Markets

While this is partly attributable to reduced consumer appetite in long-haul markets that have been hit by the global financial crisis and prolonged economic stagnation, it is also a result of the shifting pattern of visitor profiles. Davidson told OBG, “When it comes to general traffic, the traditional South African markets are fairly static. The real growth is coming from the developing markets.” In the first half of 2012, China became one of South Africa’s top five source markets for the first time, replacing France as its fourth-biggest international market. Chinese visitor numbers increased by 68.4% in the first half of 2012 compared to the same period of 2011, to reach some 60,272 travellers, according to official statistics. The country has done well to capture its share of one of the global industry’s most successful outbound markets in recent times.

Indeed, China, as a whole, recorded robust outbound tourism growth of 30% in the first half of 2012, in sharp contrast to trends witnessed in many other established markets. South Africa has been able to tap into this trend through the launch of a direct South African Airways (SAA) flight between Beijing and Johannesburg in January 2012.

South Africa’s tourism sector is not only benefitting from increased visitor numbers from China, but also from other new emerging tourist markets as well. According to the Department of Tourism, in the 12 months to the end of June 2012, Asia and Australasia provided the strongest growth, with visitor numbers from these markets up by 24.1% and 2.2%, respectively. Europe, by comparison, saw the slowest growth during the same period, at 0.81%.

Tourist arrivals by source market, 2012 HOSPITALITY SECTOR PERFORMANCE: As the hospitality industry begins to recover and the consolidation phase winds down, the prospects for 2013 look the strongest since the conclusion of the World Cup. According to Davidson, “There are strong prospects for rates and occupancy in the next 12 months. I think growth will be above the levels we saw in 2012. Yields will grow well in excess of inflation and we’ll get returns to where they were before the World Cup.” This would suggest yields comfortably in the double digits and significantly above the level of 12 months ago when investment funds were unable to secure properties that would return yields of 9.5% to 10%; returns that would make these properties non-dilutionary for their funds. As such, with Davidson expecting revPARs to exceed the stellar growth figures of 2012 in the coming year, investment opportunities should return to the sector.

Different Strokes

The market is not easily given to generalisations. The dynamics of the Johannesburg market differ substantially from those of Durban and Cape Town, for example. The last has a larger share of leisure travellers and incentives business, while Johannesburg is sustained largely by the business segment. As such, seasonal and even daily performance, such as occupancy rates and revPAR, vary widely across each market. Indeed, even within these markets, location sensitivity is pronounced. According to Davidson and others, this variability has been problematic for new entrants that built for the World Cup, which have often struggled because of a lack of market and location knowledge.

According to Guy Stehlik, CEO of BON Hotels, over 20% of South African hotels are unprofitable and facing varying degrees of distress. “Game lodges, many five-star boutique hotels and remote country inns appear to be the worst affected,” he said.

The hospitality industry has seen the departure of some firms at the top end of the market, principally due to a lack of diligence and long-term planning. Van Vuuren told OBG, “One of the reasons that companies are in distress now is that they overcapitalised and now they can’t generate the cash to service these loans.” Von Aulock agreed in a conversation with OBG: “To operate in the hotel business, you have to have the cash and balance sheet to ride out business cycles. You have to understand and be able to cushion shocks to cash flows. Those hotels that have collapsed have, in general, been over-indebted and unable to ride the cycle.”

Winning Strategies

A number of local hotel property groups have managed to prosper during the downturn, however, and remain in a strong position as the market picks up. For example, Protea Hospitality Group, the largest hotel company on the African continent, has expanded in the last 12 months. In 2012 the group invested R1.5bn ($182m) for the refurbishment of 17 hotels, the development of eight new hotels and the acquisition of a further five throughout Africa. Much of this focused on South Africa, with the refurbishment of 15 hotels in the country and the acquisition of two new properties in Kleinmond, Western Cape and Roodepoort in Johannesburg. In this period some R500m ($60.9m) has been invested in property improvements of hotels within the Protea Hospitality Group.

In July 2011 the company’s CEO, Arthur Gillis, also announced that it was establishing a multi-billion-rand fund to acquire distressed sales in the country. According to Van Vuuren, “There are some people that are in the market for property at the right price. There are significant lead times. If you’re planning now, you would be looking at two to three years to open and in that time places like Cape Town and Sandton [in Johannesburg] are going to look very good.”

One group that has prospered in this regard and continued to return strong results during the downturn is City Lodge. The company, which has 52 hotels in South Africa, offers four brands running from two star to four star. In both 2011 and 2012, the company implemented a substantial capital investment programme, spending R52.3m ($6.4m) in the fiscal year, with revenues increasing by 10.8% to R875.8m ($106.8m). Like Protea, the company is looking beyond South Africa to the rest of the continent, and acquired two properties in Kenya and one in Botswana in 2012. According to a statement in the first quarter of that year, the firm plans to invest R1.5bn ($183m) in the next five to 10 years to build 20 hotels on the continent.

Taking Care Of Business

Event and business tourism also present a promising new area for growth within the tourist sector. Africa hosted just 2.7% of the 11,000 international meetings held globally in 2012, which leaves a tremendous amount of room for segment growth; South Africa’s well-developed tourist infrastructure, expanded in the wake of the successful World Cup, puts it in a superior position amongst its African peers to attract these customers; it is also building additional event hosting capacity. South Africa is currently ranked 37th by the International Congress and Convention Association on its list of worldwide country rankings (see analysis).

The South African National Conventions Bureau is new governmental agency, established in 2012, to help promote event travel. According to the minister of tourism, this body helped South Africa to secure 88 major event bids for the period 2013-17, which would attract an estimated 200,000 delegates and R2.6bn ($317m) to the tourism economy.

Total foreign direct spend by category, 2012 MANAGEMENT CONTRACTS: The exposure of the World Cup and the consequent shake-up of the hotel market have spurred significant activity by operators. “We’ve been observing quite a number of different management contracts. It is in distressed properties that operators are going to be in a better position,” Van Vuuren said. However, while there have been some suggestions that operators have been able to command better terms, pushing operating management fees up towards 5% of revenue in 2011, there are also hints that contracts have become more complex and balanced in terms of risk. Van Vuuren remarked that management contracts signed in 2009 and 2010 started to factor in more operator accountability, including clauses which an operator has to meet targets before payments kick in: “Before it was very much slanted towards the operator, now there is a more equal share of risk.”

This subtle shift seen in contract terms has been the result of international operators attempting to penetrate the local market in the run-up to the World Cup. According to Van Vuuren, “There’s been more interest from international operators and that’s when you started to see these clauses. They do it to get a foothold in a certain sector.”

One company that has been particularly active within South Africa is the Carlson Rezidor Hotel Group, which owns the Radisson Blu and Park Inn by Radisson brands. In September 2012 the company announced the development of the Park Inn by Radisson Cape Town Newlands hotel, a 122-room property, scheduled to open in the first quarter of 2014. This is the second Park Inn by Radisson in Cape Town and complements two Radisson Blu hotels in the city, one in operation and one still being developed. The company’s aggressive push in South Africa is part of a wider African strategy. Between 2007 and 2012, the company’s portfolio (previously as Rezidor) has grown from eight hotels in five countries to 49 hotels across 21 countries on the continent. This rapid expansion, which marks out Carlson Rezidor as the fastest growing hotel management company with the biggest development pipeline in sub-Saharan Africa, has been supported by $45.7m worth of joint venture financing from four Nordic government funds. According to Davidson, “Multinationals are fairly aggressive in taking management contracts. All these players are fighting for brand positioning in the local market.” In 2011 there were concerns that the arrival of new brands, such as Radisson, was leading to a rates war, pushing revPAR below a profitable level. However, this has not stopped new entrants from trying to muscle their way into the market.

Capacity

A great deal of new activity is focused on the middle of the spectrum, Khosa told OBG. “I think in terms of growth the three-star and four-star classifications will see the most potential,” he said. Indeed, given the financial pressure facing international and domestic travellers in both the leisure and business segments, lower classifications look set to fare substantially better in the short term. “In the current global economy, people are buying down,” Meyer remarked. There is more scope for development in the budget segment, where build costs are lower, and there is also substantial growth in guest houses and bed and breakfasts.

Indeed, the cost-saving on budget hotel building stands at as much as $225,000 per room, according to the construction consultancy Davis Langdon. The company’s “Property Construction Handbook 2012” shows that in Johannesburg, luxury hotel construction stands at $325,000 per room, against $100,000 per room for a budget hotel. Nonetheless, for the hotel industry, South Africa remains a relatively competitive place to build. It cost $2500 per sq metre to build a luxury hotel in the second quarter of 2011, compared to costs of $4700 per sq metre in New York and $3970 per sq metre in London. On a per-room basis, Johannesburg is the third-cheapest major city for construction within Africa, behind Maputo in Mozambique ($317,800 per room) and Gaborone in Botswana ($322,900 per room).

While the budget segment is in demand, there are suggestions that South Africa is becoming more cost-competitive across all classifications. As it is a Travel & tourism statistics, 2012 long-haul destination for its biggest markets in Europe and the US, the volatility of the rand is likely to have less of an impact than it would for a short-haul destination, where travel decisions are made in a shorter timeframe.

Still, the exchange rate makes the country more cost-competitive. According to Meyer, “Exchange rates have a big impact. The strength of the rand a few years ago was hurting us, but now with the weak rand we’ll see a bit of a surge in bookings.”

Airlines

While this is good news for the local industry, the sector continues to be hampered by the cost of travel to and from the country. According to Khosa, The fees and costs associated with the aviation industry present a significant obstacle for a long-haul destination such as South Africa. Indeed, in mid-2011, the International Air Transport Association (IATA) noted that South Africa’s airport fees are amongst the highest in the world, and criticised the regulation allowing for a 161% increase in fees between 2010 and 2015 (see transport).

Low arrival costs should counteract high airfare prices. “Hotel and food and beverage prices are, on the whole, comparatively cheap, and with the recent rand weakness now substantially cheaper than comparable quality offerings elsewhere,” Von Aulock told OBG. “This should assist in boosting local tourism and attracting international visitors, notwithstanding the long-haul nature of the destination.”

Outlook

The industry continues to face certain challenges, as cost burdens have compounded the impact of the eurozone crisis on industry revenues. However, the sector is beginning to look up as and is supported by strong growth from emerging markets, like China. These trends are allowing hotel firms to rebuild their key indicators and return to pre-World Cup performance levels. Several companies, both investors and operators, are looking for value in the market as the hospitality sector picks up again. With this activity, 2013 should be a healthier year.