Huazhu Group Ltd

HKEX:1179

Earnings Call Transcript 2019-Q1

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to today's Huazhu Group Limited First Quarter 2019 Earnings Conference Call. [Operator Instructions] I must advise you that this conference is being recorded today, the 23rd of May 2019.

I would now like to hand the conference over to your speaker today, Ida Yu. Thank you. Please go ahead.

[Yu Ida, executive]

Thank you, Operator. Good morning, everyone. Joining us today is Mr. Ji Qi, our Founder and Executive Chairman; Ms. Jenny Zhang, our CEO; and Mr. Teo Nee Chuan, our CFO. Jenny and Teo will present the strategy review and Q1 results. Following their prepared remarks, management will be available to answer your questions.

Before we continue, please note that the discussion today will include forward-looking statements made under the safe harbor provisions of the United States Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, our results may be materially different from the views expressed today. A number of potential risks and uncertainties are outlined in our public filings with the SEC. Huazhu Group does not undertake any obligation to update any forward-looking statements, except as required under applicable law.

On the call today, we will also mention adjusted financial measures during the discussion of our performance. Reconciliations of those measures to comparable GAAP information can be found in the earnings release that was distributed earlier today.

As a reminder, this conference call is being recorded. The webcast of this conference call as well as supplementary slide presentation is available on the Investor Relations section of Huazhu Group's website at ir.huazhu, H-U-A-Z-H-U,.com.

Now I would like to turn the call over to Jenny. Jenny, please.

[Min Zhang, executive]

Good morning, everyone. Welcome to our conference call.

Let's turn to Page 2 of the presentation. At the end of Q1 this year, we have a total number of 4,396 hotels, an increase of 15% from the end of Q1 2018. The total turnover reached RMB 7.2 billion, an increase of 17% from a year ago. Our net revenues increased by 14% from RMB 2.1 billion to RMB 2.4 billion in Q1 2019. Our adjusted EBITDA stood at RMB 528 million for Q1 as compared to RMB 559 million in the same quarter last year.

To help you understand the fluctuation in our EBITDA, we have done some pro forma adjustments. The pro forma adjusted EBITDA would have been RMB 610 million or 25.5% of net revenue if excluding the increased spending in upscale hotels investments, development teams and IT capabilities in Q1 2019. We believe such investments are necessary when we invest them into our strategic focus area they are going to fuel our sustained future growth.

Before we walk you through the strategic highlights in Q1, let me remind you about Huazhu's 3 focus areas this year on Page 3. First, we accelerate expansion of hotel network. Secondly, we focus on the innovative technology applications to improve guest experience and operational efficiency. Third is the strategic deployment in upscale segment.

Please turn to Page 4. We had a record-breaking hotel opening in the first quarter with an average of 2.5 hotels gross or 2 hotels net opened every day. We added net 166 hotels in Q1 2019, up from 71 hotels in Q1 last year, an increase of 130% year-over-year.

And we expect future hotel expansion continue to accelerate given a strong growing pipeline. As shown on Page 5, we had a pipeline of 1,311 hotels at the end of Q1 this year, which represented 30% of hotels in operation, up from 19% and 14% for Q1 2018 and Q1 2017, respectively.

The significant growth in hotel opening and the pipeline building was the result of our attractive brands and our strengthened development team.

We continued to develop our development team since the second part of last year. The team is now headed by Mr. Sun. He has been on this job since October 2018. Mr. Sun joined Huazhu in 2016 as the CEO of Upscale Hotel Division and Group EVP. He was recently promoted to Global Chief Development Officer in charge of hotel development for all Huazhu brands both in China and overseas markets.

Mr. Sun has a very impressive track record in his 25 years of experience in hospitality industry with a successful record in brand building, management of upscale hotels and international acquisitions. We expect Mr. Sun to lead our development efforts to another level going forward.

As shown on Page 7, I would also like to update you on our fast expansion in mid and upscale hotels. At the end of Q1 this year, our mid and upscale rooms inventory increased by 45% from a year ago, accounting for 40% in total rooms in operation.

As shown on the right-hand side of the page, our pipeline for mid and upscale rooms accounted for approximately 82% of the total number of rooms in the pipeline, up from 80% a year ago.

Our diversified mid and upscale hotel brand portfolio with profitable hotel operating models continue to attract potential franchisees into Huazhu's hotel network.

As part of our fast expansion strategy, we have decided to reaccelerate our soft brand to consolidate the independent hotels in China, which account for approximately 80% of the supply.

As shown on Page 8, Huazhu has 3 soft brands, including: Hi Inn, Elan and Starway covering economy up to midscale segments. In addition, we are going to introduce a new soft brand, Madison, in the next few months for upscale segment.

With our acceleration strategy, we now accept smaller hotels and make it more flexible and affordable for hotel owners to join Huazhu and benefit from our operational excellence. We expect to open 300 to 400 new soft brand hotels in 2019 compared with less than 100 net openings in 2018.

Secondly, let's take a look at our innovative technology application to improve guest experience and operational efficiency. In Huazhu, the digitalization and automation have been rooted in our daily job. In the following pages, I will share with you some examples.

As shown on Page 9, we leverage technology to enhance customer interactions. Huazhu Rewards, our loyalty program, has more than 126 million members contributing about 76% of room nights served. Most of these room nights are booked through our Huazhu app. Huazhu app has more than 36 million downloads with over 500,000 daily active users.

In addition, we have more than 18 million Wechat followers and over 12 million users on WeChat Mini Program. Furthermore, we break down the full cycle of guest bookings and their experience into 16 mobile touch points and improve their experience with us.

For instance, the feature of self-room selection online embedded in Huazhu app has been used by over 20 million customers, about 92% of the users who have experienced it like it.

Next, on Page 10. We apply technology also to enhance the customer experience in their check-in and check-out process.

Our guests are now getting familiar with our automatic check-in, check-out through an in-hotel terminal equipment to simplify the front desk's work process.

It takes only 10 seconds to complete check-in through the machine. We also have the function of facial recognition and direct link to public security bureau database.

This equipment has been installed in more than 1,500 Huazhu hotels. We also sell this equipment to other hotels.

In large hotels where multiple reception staff are needed, every 2 machines can replace 1 staff according to some of the adopters of our machine. Furthermore, our innovative technology applications have been made to drive cost efficiency and quality consistency. We have built a centralized online procurement system to serve all Huazhu hotels.

Hotel owners can easily complete their online purchase of hotel supply with higher quality and lower cost. Up to now, we have more than 200 suppliers and 5,000 SKUs on our procurement system. Transactions of RMB 400 million were completed in Q1 2019 through this system.

Thirdly, let's take a look at our strategic deployment in upscale segment. We are pleased to announce Blossom Hill first urban hotel in Beijing Hou Hai opened this March. As shown on Page 12, this is a conversion from VUE hotel. The price range is between RMB 1,000 to RMB 1,500 per room night. We are glad to announce that in April in the first month it gets into the Blossom Hill brand, this hotel achieved RevPAR growth of 6.8% year-over-year.

I'm also excited to report that we have enriched leadership for our upscale hotel segment.

Mr. Xia Nong joined Huazhu in April serving as Global CEO of Upscale Hotel Division and the Group EVP. Mr. Xia has over 20 years of international hospitality and travel management experience. His work experience in international hotel groups will add great value to Huazhu's strategic deployments in upscale segment.

We expect to bring you more updates on our upscale hotel progress in the following quarters.

With that, I will turn the call over to Teo. He will walk you through our operational and financial results in detail. Teo, please.

[Nee Chuan Teo, executive]

Thank you, Jenny. Good morning, everyone. Please turn to Page 15. In Q1, our group blended RevPAR grew by 2.9%. The RevPAR growth was driven by an increase in ADR by 6.9% year-over-year contributed by a 2.9% year-over-year increase in mature hotels ADR and an increasing mix of mid and upscale and upgraded hotels.

Our occupancy stands at 81% in Q1, 3 percentage point lower compared to 84% a year ago. The lower occupancy was largely attributed to the softer macro economy environment as well as a higher base in Q1 2018.

Turning to Page 16. Our same-hotel RevPAR growth was flat at Q1. Our ADR improved by 2.9% and partially offset by a lower occupancy of 2.8%. We observed a softer visitations to the spring trade fair and conference in March compared to last year. This has resulted in a lower occupancy in our hotels in Q1. This trend continued into April, but we have seen a recovery in May this year.

This trend is consistent with our original forecast earlier this year given that the Chinese government has put in place a number of stimulus to reboot the economy since Q4 of 2018. However, given the recent escalation in the China and U.S. trade war, we need more data to determine if this recovery trend will continue into Q2 and subsequently in subsequent quarters.

Moving on to financial results on Page 17. Our net revenues grew by 14.2% in Q1, in line with our guidance of 13% to 15%. Breaking down the revenue. Net revenue from our leased and operated hotels improved by 8% year-over-year and net revenue from our manachised and franchised hotels was up 30% compared to last year.

In Q1, revenue from our manachised and franchised business model contributed 27.8% of our total revenue, up by 3.5 percentage points from last year. We expect the contribution from our franchise business will continue to increase going forward.

As Jenny mentioned, we made good progress in the midscale segment. Revenue contribution from our mid and upscale hotels continued to increase. As shown on Page 18, in Q1 revenue from mid and upscale hotels increased by 30% to CNY 1.3 billion, accounting for 54% of the total hotel revenue, up from 47% from a year ago.

Turning to Page 19, operating income and margin. The reported income from operations was CNY 264 million compared to CNY 306 million last year. The reported operating margin was 11.1%, 3.6 percentage points lower compared to 2018.

The lower operating profit and margin was mainly due to a lower same-hotel RevPAR in our hotels and also our increased investment in hotel development teams, upscale hotels and IT capabilities. Excluded these investments, the pro forma income from operation would have been CNY 351 million compared to CNY 306 million last year. The pro forma operating margin would have been 14.7%, the same level as Q1 2018.

This investment does not bring in any revenue at the current stage, but they will generate revenue in the future. We had an increase in headcounts for our development team.

The results have been very positive. We have seen our pipeline hotels increased by 76% to 1,311 at the end of Q1 compared to 744 hotels last year. This faster hotel network expansion will bring in revenue and operating profit when they are opened.

Another area where we invested are our IT talent pools. As Jenny demonstrated in her presentation earlier, our technology capabilities allow us to drive both operational efficiencies and customer experience. Our technology team is also working on a number of other projects, which we will incorporate into our hotel operations going forward. We will share more details on this project with you at a later stage.

Last, but not least, we have made a strategic deployment into the upscale segments to expanding our upscale hotel teams and secured a number of strategically located properties in Shanghai, Beijing, Hangzhou and Chengdu for our upscale hotels.

This has caused our payroll cost and preoperatings to increase compared to last year without any revenue contribution until next year in 2020.

We believe these investments will bring additional revenue and drive margin expansion in the coming years.

Turning to Page 20, on our cash balance position. At Q1 2019, we have approximately CNY 4.5 billion in cash. In Q1, we paid our cash dividend of CNY 659 million to our shareholders. Capital expenditure during this period was CNY 384 million. We have also successfully remitted out CNY 2.5 billion to our offshore bank accounts. This cash has been partially used to repay CNY 120 million of our offshore revolving bank borrowing in Q1, and a further USD 130 million has been used to repay the offshore revolving borrowing facilities in April.

At the end of Q1, our offshore cash balances and bank borrowing facilities available to draw down totaling USD 350 million. As we generate most of our cash in China, we have more than sufficient cash to repay for all our capital expenditure in China.

Finally, on Page 21, our guidance. We revised our full year gross operating target to 1,100 to 1,200 hotels. We estimate to close about 200 to 250 hotels in 2019. We expect our Q2 net revenue to grow 13% to 15% year-over-year.

With that, let's open the floor for questions.

[Operator]

[Operator Instructions] And our first question comes from the line of Justin Kwok from Goldman Sachs.

[Justin Kwok, analyst]

I have 2 questions in mind. The first one it's on the soft brand, and the other one is on the Everbright investment platform. Perhaps the first one, I guess, is either just to Mr. Teo or Jenny on that side. On the discussion on the reacceleration for the soft brand with the Huazhu platform, can I get some color on the scale that you're looking at in terms of the expansion in the near term and also in the longer term, the economics that you believe that this would bring in? And also how do you see the competitive landscape with other operators like OYO or other OTAs in the market? The other question it's -- we saw some news flow on the Everbright investment platform which you are involved. Can we get a sense on the CapEx that the company is expected to be committed or the economics that it will potentially bring in?

[Min Zhang, executive]

Let me take the first question and ask Teo to answer your second question. On soft brands, as we elaborated in the presentation we just gave, we expect to open 300 to 400 new hotels under those 4 brands. And we -- this is for us is truly a reacceleration because we opened very, very few of those hotels last year.

We reaccelerated because we see the potential expansion in the independent hotels, and we also see the need of the independent hotels that they need to join a brand, join a distribution network to help them achieve better returns on their investment. And we looked back at our current system, we realized that we need to be more flexible to embrace those hotels. So we have developed slightly different distribution approaches, slightly different fee structure to accommodate their needs.

We developed the soft brands hoping and also targeting that this is going to be a growing and profitable business for us. Of course, we can also generate meaningful value to other franchisees joining those brands. Those are we call a win-win approach to this business as well as, of course, in our many other businesses. So this is not the same as what some of the other players like OYO and OTA are doing. They are pouring a lot of cash into the market trying to develop large inventory, and I believe many of those are trying to generate profit through distribution, and we believe our value is more comprehensive, and we don't expect to generate large losses because of the soft brands business. As I said earlier, we expect it to be a growing and a profitable business for us.

[Nee Chuan Teo, executive]

Okay. Justin, to answer your second question. In fact the reason, the purpose for us to participate in some of these properties fund hotel and properties fund is to actually help Huazhu to secure the management rights on these strategically located properties.

As we -- in fact, we had mentioned that, I think, last year or the year before that we would like to keep the expenditure limited to approximately CNY 1 billion. At this stage, we have spent approximately -- we have invested approximately CNY 600 million in these areas, and we have CNY 400 million to go. But on the other hand, we expect that some of these funds because they will -- it will come to a stage where we will exit from some of those properties, then recycle back that -- capital back into the pool so to release more investment going forward.

[Justin Kwok, analyst]

Yes. But would you expect any like a [ promote ] or the earnings coming in from the fees investments, is that -- how would that be captured in your P&L?

[Nee Chuan Teo, executive]

Well, the management fee -- the management [ chair ] that we will be going to it will be treated as manachised hotels.

[Justin Kwok, analyst]

All right. But investment to the fund itself, would you earn money? And then would you focus through like some of the associated JVs?

[Nee Chuan Teo, executive]

Look, we participate in these funds through an LP and -- as a LP and a GP role. So we may actually earn some GP fees, which we use to offset some the cost. [indiscernible], the gain from LP will be treated as the disposal gain when we exit.

[Operator]

And our next question comes from the line of Dylan Chu from CLSA.

[Dylan Chu, analyst]

I've 2 questions. The first question is about our strategic development -- strategic deployment in upscale segment. As you mentioned, this is quite a commitment with a lot of investment upfront and revenues and profitability opportunities later on. Could you please just share with us a little more just about what kind of opportunities that you saw on the ground that made you decide to focus on upscale and investing in this segment at this particular point in time? And sort of related to this, what would be the full year preopening expenses that you expect for 2019?

Second question is on the leased or owned segment of the business. So first quarter, hotel operating expenses were slightly ahead of expectations. So could you please provide a little bit of color in terms of how should we think about leased or owned portion of the business cost inflation going forward? I think, alternatively, what would you think should be the required same-hotel RevPAR for the owned business to offset cost inflation this year?

[Min Zhang, executive]

Okay. Let me pick up your first question and ask Teo to explain the results and the forward thinking about leased and operated hotels.

Our upscale hotels contribute a significant portion of the GMV in China's hotel market. In the Tier 1 cities, typically the 4-star and 5-star hotels will contribute about 40% of the GMV. And in lower tier cities like Tier 2 and Tier 3, they can also contribute anywhere from 20% to 40% of the GMV. So this is a very large market that we haven't penetrated much into yet. We see this as a huge potential. And therefore, we have made quite a few efforts in those areas. The first effort is really to use our own investment, the leased hotels in particular, to build flagship. For example, we opened the first Joya Hotel in Shanghai. And we signed another 4 flagship deals for Joya, 2 in Shanghai, 1 in the Pudong right next to the Huangpu River has a great view and also very close to the Lujiazui, the financial district. And the second Shanghai one was just signed yesterday, which is at SOHO -- the new SOHO building at Gubei, which is also very rich and elegant area of the city. We signed 1 deal in Hangzhou, the Zhejiang, the CBD area of Hangzhou. And the fourth one in Chengdu, Taikoo Li, which is also the heart of the city. So those 4 new hotels will incur significant preopening expenses, but we believe this is a worthy investment.

Similarly, we also invested in 1 Grand Mercure in Guangzhou, which will be opened very soon. And so all those efforts into the upscale segment as opening new hotels will incur quite some expenses, in particular in the form of preopenings and the loss incurred in the ramping-up period.

And secondly, we made a significant investment last year to acquire Blossom Hill, and we are going to rename the English name to VUE in the next few months. This brand is very well recognized, but we need some time to train [ the raw ]. So in Q1, this new brand still incurred some operating losses. So we view all those as our investment into the upscale segment. Our intention is to build up our brand, improve our capabilities and then attract management contract and gradually penetrate into this segment.

[Nee Chuan Teo, executive]

Okay. So picking up from that is that the losses -- the investment in the upscale segment, which includes the preoperating expenses and the loss on the Blossom Hill, it was approximately CNY 5 million in Q1. The preoperating expenses and the investment that we expect we'll put in to the -- this upscale segment would be a total of approximately CNY 200 million in 2019 itself. Okay? Yes, so the second -- can you repeat your second question on leased and operated hotels?

[Dylan Chu, analyst]

The second question is about the cost inflation trend in the leased and owned hotels. So what would you think would be the same-hotel RevPAR required to offset cost inflation this year?

[Nee Chuan Teo, executive]

Okay. The same-hotel RevPAR increase to offset the cost inflation will be approximately 1.5%. In our leased and operated hotels, same-hotel RevPAR increase in Q1 was at 0.7%. And it's actually below the 1.5%, the breakeven point for the cost inflation. On the other hand is that our operating margin has been helped by an increase in the contributions from our manachised business. So in other words is that the manachised -- our asset-light manachised business has actually more than offset the decline in profitabilities in the leased and operated hotels. But given that the -- because of the lower operating margin from leased and operated hotels, the operating margin from this hotel operation has declined.

[Min Zhang, executive]

Just to add on the explanation Teo just gave. Of course, we experienced some profit decrease in our matured leased and operated hotels. Obviously, the decrease is in the range of RMB 50 million, RMB 60 million

[Nee Chuan Teo, executive]

RMB 60 million.

[Min Zhang, executive]

RMB 60 million in Q1. However, our operating profit increased from the management of franchised hotels more than...

[Nee Chuan Teo, executive]

CNY 130 million.

[Min Zhang, executive]

CNY 130 million. So we believe the core business, yes, of course, experiencing some fluctuation because of the macroeconomic situation. But because of our well-balanced structure of leased and management hotels, the matured brand profit actually are still increasing. So we are confident that we have a very resilient mix in terms of our management and leased hotels.

[Operator]

And our next question comes from the line of Tian Hou from T.H. Capital.

[Tian Hou, analyst]

The question is regarding the ADR trends. So if I look at the ADRs for the existing -- the same-hotel RevPARs at RMB 176 in Q1, it's 0.4% year-on-year growth. And so what is the trend on the same-hotel RevPAR going forward? And also what's the trend for the blended RevPAR going forward? That's the question.

[Nee Chuan Teo, executive]

Okay. Talking about the -- okay, [indiscernible] given that the -- our increasing mix from the mid and upscale hotels, our average ADR is actually increasing. But on the other hand is that given that the challenge from the macro economy is that we expect the RevPAR for the first half itself will be flattish. As Jenny said, we expect that maybe that if we see how it goes is that in the second half we expect EBITDA to recover. It may be a low single-digit kind of RevPAR.

But for the blended because a significant number, 82%, of our new hotels in the mid to upscale hotels, in the upscale segment, this invariably will actually bring up the average RevPAR -- the blended RevPAR by a couple of percentage points compared to the same-hotel RevPAR.

[Tian Hou, analyst]

That's very helpful. The second question related to the total hotel network. So each year, you guys have a high target of new opening. So I wonder what is the geographic allocation. So for example, the Tier 1 cities, what's the percentage will be at the end of 2019 or 2020? What is the percentage of second tier cities? So is there this kind of a target?

[Nee Chuan Teo, executive]

In fact that our majority of new openings I would say that for Tier 1, Tier 2 is approximately like 60%. And I will say that the -- there was a -- I would say that for leased and operated accounts, a majority of our openings are in the higher-tier cities, whereas for the manachised it's more evenly spread out.

[Operator]

And our next question comes from the line of Lina Yan from HSBC.

[Hau-Yee Yan, analyst]

I have 2 small questions. So one is on the store closure. You also increased the store closure target to 200 and 250 from 150 and 200 before. So I'm wondering like was this related to the increase in gross opening from the opening of soft brands? Or it's just a higher -- like a closure -- like from our -- like own brands -- like gross -- like versus our own brands like opening. So this is the first question.

[Nee Chuan Teo, executive]

Our closure of 200 and 250 I would say the majority of which actually related to the older hotels, which their lease been expired or that they are related to certain properties where the landlord decided to actually put to other use and terminated the lease and maybe also due to the government rezoning, et cetera.

So -- and yes, you're right, majority of the brands are actually related to the smaller and older hotels on given economy segment.

[Hau-Yee Yan, analyst]

Okay. So my last update was out of the total closure 20% or 30% will be on owned and leased, so this -- is there any update on the closure on owned and leased numbers?

[Nee Chuan Teo, executive]

On the -- yes, [indiscernible], it's approximately the same number. The increase is actually related to the manachised business.

[Hau-Yee Yan, analyst]

Okay. Okay. Great. And also you just mentioned for upscale the total loss will be CNY 200 million. So this CNY 200 million will be allocated between the preopening expense and the loss from the -- during the ramp-up stage, right, half and half?

[Nee Chuan Teo, executive]

No. The CNY 200 million is actually related because we secured a number of -- a significant number of the properties this year -- end of last year and this year and the majority of which is that -- is mainly coming in at the CNY 200 million is preoperating expenses for this strategy for fresh hotels.

[Hau-Yee Yan, analyst]

Okay. Got it. Got it. So it's mainly the year-on-year increase in preopening. Yes.

[Operator]

Your next question comes from the line of Juan Lin from 86Research.

[Juan Lin, analyst]

My first question is on the full year gross opening target. Given that we have already raised the full year gross opening target, could you please give us some color on the full year revenue growth outlook? And how should we expect the RevPAR growth in the full year in 2019?

Second question is on soft brands. If could you please elaborate a little bit on the strategy in soft brand business and provide some little bit of update for this business segment if possible?

[Nee Chuan Teo, executive]

And first of all, let me address your questions on the revenue growth. Given that we have increased our [ quota for next year ] our new hotel opening target, we have not -- we still have -- we do not have much data on the RevPAR growth going forward. So we're actually maintaining our annual revenue growth target of 15% to 17% -- 15% to 19%. So we would like to keep that is because, number one, is that we expect the additional hotels -- additional opening of hotels will bring in additional revenue. But on the other hand, it may be offset by a lower RevPAR that we have previously guided.

We previously guided approximately 3% on the same-hotel RevPAR growth, but given the current U.S. and China trade war, we expect that the same-hotel RevPAR growth to slow down to even a lower single digits. So that the offset it maybe we would like to -- at the current stage, we would -- we will still maintain the annual growth -- revenue growth of 15% to 19%.

[Juan Lin, analyst]

And the question on soft brands?

[Nee Chuan Teo, executive]

Jenny, strategy on soft brand.

[Min Zhang, executive]

I think I already explained that part to Justin, which is the first question of the call, but I don't mind briefly repeat it again. We reaccelerated soft brands to increase our network by providing more flexibility to embrace those independent hotels. And we expect this business to be a growing business and a profitable business.

[Operator]

[Operator Instructions] And our next question comes from the line of Carlton Lai from Daiwa Capital.

[Carlton Lai, analyst]

Just 2 quick questions. I think my first one, again, is relating to your soft brands. I understand the strategy behind that and how we're accelerating our consolidation of independents. But at the same time, there could be potential risks for -- by lowering the requirements or increasing flexibility. It can potentially lower our hotel experience or quality control. So I just want to ask how are we controlling that quality going forward or in the long run? That's my first question.

And my second question is regarding -- over your ambitions outside of China. It does seem like we're getting more serious here with a global CDO. So I just want to see if there is any new thinking here and what our ambitions is globally and not just on China.

[Min Zhang, executive]

On your first question, we have actually a good quality control process in place when we developed our soft brand. Most of the hotels when they joined soft brand they also need to put in certain investment to improve their facility up to our brand standards. So you shouldn't assume that we will just take the hotels as they are and to become one of our hotels. We pay particular attention to security, to the items that relating directly to customer experience like linen, like the cleaning standards, breakfast and so on.

So I believe we have the capability to strike the right balance between speed and quality when we develop our soft brands. And on the China macro economy, I don't want to pretend that I'm the expert because there are already a lot of news and information in the market.

In general, we do experience some softness in the economy in the first quarter. But as we shared with you guys earlier, number one, our portfolio concentrates in economy and midscale hotels, which are resilient in the economy fluctuation. And secondly, we have -- more than 80% of our hotels are under the franchise and the management model and -- which is reasonably stable compared with the higher level in the leased model. So we believe this mix will also make us quite resilient through the different economic cycles.

[Carlton Lai, analyst]

Actually, my second question was regarding your ambitions outside of China. So I understand you already have a Singapore property in the pipeline. Now that you have a dedicated development officer for -- do we or are we more ambitious here? Are we planning on exploring other countries too?

[Min Zhang, executive]

We are looking at different opportunities in different countries outside of China. By now, we are still in the, we call, exploration stage, and we will definitely keep our shareholders updated if we're making any meaningful progress.

[Operator]

And our next question comes from the line of Ronaldo Loyo from Bank of America Merrill Lynch.

[Ronaldo Loyo, analyst]

I have a question for Teo. So what is our latest expectation for operating margins for full year 2019?

[Nee Chuan Teo, executive]

Our operating margins, in fact, as I demonstrated earlier, is that our operating margin from our hotel operations is actually pretty flat. But having said that, we invested some money into these development teams, the IT capabilities and upscale hotels. This actually dragged down our operating margin by a couple of percentage points. But this is not -- what is not helping is that the original expectations of the recovery will be much stronger starting from May, but that did not turn out following the China and U.S. trade war escalation. So with that, it becomes a little more uncertain. So originally, we expect the operating margin will be actually from -- our core operations will actually goes up and then offset by the investments into the areas that I mentioned earlier. But now that we may -- given the current situation, we expect the operating margin may drop a little bit, a couple of percentage points, given the current situation. But we have yet to -- we need more data to see the same-hotel RevPAR growth in the coming quarters to see where our operating margin will land.

[Operator]

And our last question comes from the line of Leon Chik from JPMorgan.

[Leon Chik, analyst]

Just on the issue of extra costs for making improvements to efficiencies, IT, automation and all that. First question is where would that be recorded? Is it in G&A costs or staff cost? And the second question is, does that pretty much finish in first Q or still heightened for the rest of the year?

[Nee Chuan Teo, executive]

Okay. The increase in the investment is generally reflected into a couple of areas. Number one is increasing in the payroll costs. This is actually reflected in the -- mainly in the G&A expenses, and the other one is actually the preoperating expenses. We actually do not expect the -- we do not expect that this investment will actually stop in Q1. This investment will continue on for the entire 2019 without having revenue coming in from these hotels and these investments. So we expect that with the higher hotel openings maybe in -- I mean the second half this year or maybe next year from the additional development team that will bring in more revenue and operating margins going forward. The same goes for the upscale hotels.

[Operator]

And there are no further questions at this time. And I'll hand back over to the management for the closing remarks.

[Yu Ida, executive]

Thank you, everyone, for taking time today. We look forward to talking to you in the next quarter. Thank you.

[Operator]

And this does conclude our conference for today. Thank you for participating. You may all now disconnect.