Mantra IPO

Mantra is one of Australia's largest hotel and temporary accommodation property management companies. Go to Mantra's website and you'll find a wide range of hotels to pick from for your next holiday in Australia, New Zealand or Bali. The benefits of letting Mantra manage your hotel include its management expertise and network of suppliers, cleaners and contractors that keep the hotels up to standard so Mantra can maximise occupancy and room rates. Mantra also offers deals to customers across its wide network that a single property owner never could. And because Mantra gets a cut of revenue and is paid for the various services it provides it's a high free cash flow business producing a respectable return on equity of 17%. The average remaining maturity of Mantra's contracts is 19 years, which helps support revenues through the business cycle. 

Mantra has benefited recently from strong demand for accommodation, limited new supply (as it's very expensive and risky developing large new properties) and the replacement of 29 contracts with 20 more profitable ones. The rub is that Mantra must pay property owners a minimum amount regardless of the performance of its properties under management, so you don't want to get caught buying this stock near the top of the cycle when earnings are peaking. 

Despite increasing revenue and margins over the past three years, Mantra is aiming to double revenue growth and further increase margins over the next few years through a combination of winning management contracts for new property developments and a large increase in Chinese and domestic tourism. While we expect Mantra to win its share of new contracts, Australian occupancy rates and room rates have recently grown faster than the long-term average from Darwin to Hobart and everywhere in between. This suggests we're much closer to the top of the cycle, which explains why the company is about to be listed after two previous attempts.

Mantra also faces an emboldened competitor in Accor, which is hoovering up contracts and now manages nearly 27,000 rooms compared to Mantra's 15,000. Mantra shareholders will be hoping the competition remains rational to maintain margins.

Mantra's private equity owners CVC and UBS, which will own 43% of the company after the IPO, will use the IPO proceeds to repay and reduce debt, but we expect they'll eventually sell out. Management will have a small 3.5% stake but a long-term incentive plan won’t be implemented until after the release of the full year results in 2015 when the escrow period for the current owners ends. With a price-to-earnings ratio of 16 based on the issue price of $1.80, there appears little margin of safety for today's buyer. AVOID.