The chink in Oyo’s armour

Down the narrow lanes of Amarjyothi Layout in Domlur, a commercial district in Bengaluru, two out of three Oyos are now branded as FabHotels, its rival.

Last month, over 60 hotels in Kochi in Kerala boycotted Oyo for pushing discounts offered to customers onto them. It couldn’t be known how many of its 10,000-odd hotels in India have severed their ties with Oyo, but the company spokesperson told The Passage it has “99% hotel retention rate” and it “purges 0.5 % assets due to its unrelenting focus on customer experience.”

What’s interesting, more than the numbers, is the reason why hotels are ditching the long-standing partnership. A hotelier explained in three words — “Oyo is stupid.”

Then came a barrage of reasons — issues with pricing due to excessive discounting, delayed payments and a cutback on the minimum revenue guarantee under which Oyo promises to offer fixed money to its hotel partners irrespective of their actual business. Oyo makes money from the 20-22% commission it charges on over and above the revenue generated apart from the guaranteed revenue.

The third Oyo in Domlur, housed in a residential building of sorts, claims to enjoy a good occupancy rate. Managed primarily by the hotel owner, it has seen consistent and even increasing payouts under the minimum revenue guarantee. It is to be noted here that high occupancy driven by deeply discounted rates doesn’t necessarily translate into higher revenue for hoteliers.

Either way, it's a sticky situation for Oyo. If the five-year-old hospitality company doesn’t pay minimum revenue to hotels, it risks losing them to competitors. But to cut losses and earn revenue, it has to do away with the model.

The minimum revenue guarantee was supposed to be a bait to bring hotels on-board. It seems to have become the primary factor for hotels to stay with Oyo, especially those which are incurring losses. The developments now reveal the shaky foundation on which Oyo has built its empire.

The minimum revenue guarantee conundrum

In the race to have maximum number of properties on board, Oyo has partnered with hotels without performing due diligence.

An industry insider who did not wish to be named said, “Oyo has blindly on-boarded hotels of very poor quality just in the madness of having huge number of properties. The only way for you to sell these properties is by discounting them deeply.”

“Since there is only so much demand in the market, just aggregating hundreds of thousands of hotels, will not grow demand.”

When the scale reaches a point where the supply side starts outstripping the natural demand available in the market, hotels start seeing loss of occupancy.

“Since Oyo has tens and hundreds of hotels in every area, the same demand is being cannibalised across the board,” he said.

To generate more demand, Oyo is giving deep discounts. For instance, a room that used to sell at Rs 2,000 earlier is offered at under Rs 1,000. Given the discounted rates, many hotels saw a clientele shift.

“Due to low prices, about 40% of Oyo’s demand are from couples who come in for a few hours,” the source explained. “A lot of these hotels that earlier depended on corporate clients have to now deal with college kids. It is not just an economic loss, where their profitability worsens, it’s also a reputation loss. Because corporate travellers are not looking for discounts, but the quality.”

Oyo although has denied deep discounting.

"Unlike others hoteliers, we are able to deliver predictable and affordable tariffs to our customers because we can reduce our cost of operations significantly when compared to traditional hotel companies, through the use of technology, superior talent and by leveraging our competencies that come with scale," Oyo said in an email response. "Since the room rates are decided by us so the question of discounts doesn’t arise."

It’s not easy for Oyo’s partners to leave the company because it’s difficult to sustain occupancies without it. Besides, multiple hotel owners claim that Oyo holds back money if they try to terminate the contract, and slap them with legal notices, if they go ahead and end the partnership.

Since April this year, Oyo claims to give 18% interest on delayed payments to its partners under its ‘partner engagement network initiative’. However, those who stop working with Oyo may not fall under this.

On slapping lawsuits, Oyo said, "some individuals have also been threatening to cancel agreements and not accept online bookings, which will be a default of the contractual arrangements, and will lead to legal liabilities on these individuals as we can’t let anyone hamper the customer experience. We will take strict legal action."

If industry watchers are to be believed, Oyo is running out of cash fast. As a result, over the last six to nine months, Oyo has reduced, and in some cases stopped, the minimum guarantee to partners that aren’t earning as much.

(Source: RoC filing)

When FabHotels was launched in 2014, it tried the minimum revenue guarantee model for the first year. “We did it at the time of launching new cities when we needed to create success stories in that city, and to get to a critical mass,” said Vaibhav Aggarwal, co-founder Fab Hotels. “Given our coverage today, we don't need to do that anymore.”

FabHotels realised it soon that this wasn’t a sustainable strategy.

“We have focused selling on sustainable price points from the start. Both the franchisor and the franchisee need to be making money on every transaction, and consumer should be willing to pay the right price for the product,” Aggarwal said.

The promise of revenue assurance comes with the pressure of increasing occupancy. Hence discounting becomes inevitable — tariffs are often dropped by half. The hotel owner naturally expects such losses to be borne by the aggregator. However, sources said Oyo is slyly shifting that burden on hotel owners, which are trapped in minimum guarantee conundrum.

"Minimum revenue scheme is actually a ponzi scheme," said an industry insider who works with a state level hotel association and declined to be named for the fear of backlash from Oyo.

"If my hotel room price is Rs 1500, and Oyo says it will give me 1000 room nights if I agree to the room rate of Rs 600, I would definitely say no. Instead what Oyo did was, it gave a minimum guarantee of Rs 6 lakh (Rs 600 x 1000) and took over the right to decide the prices by promising to fetch decent prices. But it went ahead and sold the rooms at Rs 600 or even lower. That minimum guarantee scheme actually destroyed the industry because it depressed the prices of the entire area. Cost is increasing at least 10% year on year, but prices are going down. Several hotels are closing down, because they are going empty."

"Their end game is to reduce the prices in the city so the hoteliers feel helpless and gives the hotel on lease to Oyo so that they will at least get the minimum guarantee," he said.

"Even if Oyo provides minimum guarantee, they slap all sorts of penalties on hoteliers. In one of the hotels, they charged Rs 10,000 for a small dent in the room for not meeting the quality standards. Two months back, they said hotels have to bring 8% of the overall volume through walk-ins, otherwise 2.5% of overall turnover will be cut as penalty. Even for walk-in customers, you have to give 5-8% commission to Oyo in addition to the walk-in customers' contact details. And Oyo uses these details to market to those customers and make sure next time they do not come directly to us, but instead through Oyo app."

"Earlier many hotels were putting up with all this because of minimum guarantee. But minimum guarantee also gets revised (reduced) over night without consent, when Oyo is not able to achieve it. They (Oyo) do whatever they feel like. They have the least regard for the contract they have signed and they violate it blatantly. Even if a small hotelier wants to contest it, he doesn't have means," he said.

The China pile-up

Backed by deep-pocketed investors such as SoftBank, Lightspeed India Partners, Grab, DiDi Chuxing, Sequoia and Airbnb, this June, Oyo took the minimum guarantee model to China as well.

“In principle, this model should work whether in India or China,” said Chetan Kapoor, co-founder and analyst at travel research firm Videc. “But only by reaching a huge scale, Oyo will be able to make money.”

The minimum revenue guarantee assures hotels that partnering with Oyo would not make them lose money. Once hotels start earning more than the guaranteed revenue, Oyo would stop incurring losses and earn a commission. Ideally it’s a win-win situation, which hasn't unfolded in India as Oyo would like to.

However, there is a difference in how Oyo handles it. At least until 2015, Oyo used to pay the minimum guarantee fee to hotel partners upfront. It later began paying it at the end of the month. Essentially, what was earlier an expense has now become a source of revenue in its balance sheet.

(Source: RoC filing)

In less than two years of operations in China, Oyo claims to be the second largest hotel chain in the country with 500,000 rooms in over 330 cities.

In May, Oyo China announced a partnership with e-commerce giant Meituan and China’s largest online travel agent Ctrip. What it did not reveal is that to list on Meituan and Ctrip, it paid RMB 50,000 per hotel to Meituan (Rs 5 lakh) and RMB 20,000 (Rs 2 lakh) per hotel to Ctrip, amounting to a total of RMB 600 million (Rs 6 billion). It is also paying 20% commission on every order.

Oyo is now gearing up for a long fight for the China market, something that even global giants have failed at. It has allocated USD 600 million for China, where it claims to have hired over 10,000 people.

In an open letter to Chinese employees last month, Ritesh Agarwal, the 26-year-old founder said he sees China as a local market for Oyo and is trying to double the investment and hotels in the country. He claimed Oyo already has more than 100 hotels in the 2.0 model, which requires hotel owners to let Oyo control pricing and adopt its hotel operations software in exchange of a baseline revenue.

On world tour for funds

Ritesh Agarwal is continuously traveling to meet with investors to raise money. The company has by now raised USD 1.7 billion. Last week, media reported that he is in talks to buy back a whopping USD 1.5 billion worth of shares— the biggest buyback ever by any Indian entrepreneur—from early investors Sequoia Capital and Lightspeed Venture Partners.

The company is reportedly in talks to raise USD 1 billion from new and existing investors.

According to an industry veteran, a major factor why Oyo has been able to raise money is the number of partners it has in the country. “At the time when Oyo is looking to raise money, it can absolutely not afford to lose partners or for there to be murmurs in the market that they are losing hotels,” a source said. “Since they have created multiple money-burning fronts, I can't imagine them going out without raising substantial money.”

“When you start giving free money to thousands of hotels, apart from spending on renovations for Townhouses and other flagship projects, even billions of dollars can start depleting very quickly,” the source added.

Treebo and FabHotels, Oyo’s prime competitors, have over 500 properties each — roughly about 5% of the total properties Oyo has amassed. They work on a manchise model, a buzz word comprising of ‘management’ and ‘franchise’, where they are closely working with franchise properties and creating an intentional “aspirational brands.”

As compared to Oyo Rooms’ average pricing of Rs 1,000 (although its flagships have higher average prices), Treebo and FabHotels operate at an average price point of Rs 2,100 and Rs 2,000, respectively. Both companies have positioned themselves as premium budget offerings.

“Ours is an aspirational consumer brand at the mid-to-higher end of budget segment," said Fab’s Aggarwal.

"Once you have made a brand at Rs 1,000, it is very difficult to move up,” explained one of the sources mentioned above.

India has about 2.7 million accommodation rooms operating across hotel chains, independent/ unbranded hotels and alternate accommodations such as homestays and guest houses, according to hospitality consulting firm Hotelivate. Of the total, 72% rooms are unbranded and 15% fall under alternate accommodations. This represents a huge headroom for growth for Oyo and its rivals such as Treebo, FabHotels, Vista Rooms and WudStay.

However, Oyo is in a different league altogether. With its global expansion dream, it’s reportedly chasing a USD 10-billion valuation as well as seeking IPO in the next three years.

At 23,000 properties (850,000 rooms) globally, Oyo claims to have become the world’s third largest hotel chain, as per room count, in June 2019. But if it keeps giving hoteliers free money, it won’t be profitable anytime soon, let alone go for an IPO.

“It is like riding a tiger. You have raised billions of dollars, you have shot yourself up to billions of dollars of valuation, and all of that money is riding on one simple fact: you are a large-scale fast-growing company. SoftBank is not concerned with Oyo’s experience score, but its only worry is its growth scale,” said the industry insider quoted above.

“When you are under that kind of pressure, which you have created for your own self, it is very hard to stop. The only thing you can do next is go faster.”