Pick Up Park For Peanuts

Last week, Chinese conglomerate HNA Group, a 25% shareholder of Park Hotels & Resorts (PK), announced that it was seeking to sell all or part of its ownership (more than 53 million shares). As Floris van Dijkum, equity analyst with Boenning & Scattergood, wrote in a research report,

The HNA situation should continue to depress PK’s stock performance until the overhang is lifted. New of the pending sale helped to send PK’s share price down 5.8% on Friday.”

HNA was founded in 2000 and is involved in a variety of industries such as aviation, real estate, financial services, tourism, logistics, and more. In addition to PK, HNA also has substantial stakes in Grand China Air and Hilton Worldwide (NYSE:HLT). In July 2017, HNA was ranked #170 in Fortune Global 500 companies with more than $53.335 billion. (Source: Wikipedia)

According to Bloomberg, HNA is selling assets because of a “liquidity squeeze” in which more than $9 billion in HNA asset sales have emerged:

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Reuters cites “HNA’s leverage” and “aggressive financing policy” for the aggressive actions and said that “in recent weeks (HNA has) also has raised additional financing by selling expensive short-term debt and pledging more of its shares for loans.”

Since the HNA news on Friday (March 2nd), PK shares have declined ~5%:

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In my last PK article (on Seeking Alpha) I wrote that “when you invest in Park you are essentially investing in the premium Hilton brand. Conrad Hilton knew a thing or two about branding and the value proposition for owning shares in Park today is that you are essentially getting a slice of one of the best hotel brands in the world, at a discount.”

Conrad Hilton said,

The buyer is entitled to a bargain. The seller is entitled to a profit. So there is a fine margin in between where the price is right. I have found this to be true to this day whether dealing in paper hats, winter underwear or hotels.”

Well, that “fine line” is not as “fine” now, thanks to HNA Group’s announcement that it is unloading shares in Park Hotels. As Benjamin Graham wrote in The Intelligent Investor, the value investor’s purpose is to capitalize upon “a favorable difference between price on the one hand and indicated or appraised value on the other” and that is why I am “picking up Park for peanuts.”

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Photo Credit

Why Park?

Based in McLean, Virginia, Park Hotels & Resorts was formed when Hilton Worldwide spun off most of its owned real estate into a separate public REIT. Park is the latest entrant in the Lodging REIT sector long dominated by Host (HST), which still dwarfs all other stock exchange-listed hotel REITs in terms of size. Park is the second-largest publicly traded Lodging REIT:

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Park is among the Top 25 largest REITs out of 130 REITs based on TTM Adjusted EBITDA and Park ranks among the Top 25 Largest REITs in the US:

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Park Hotels owns a $9 billion portfolio of 67 large-scale, high-end hotels, including iconic properties stretching from coast to coast. Its trophy properties include the New York Hilton, which spans an entire city block in Midtown Manhattan; the landmark, 1,544-room Hilton Chicago Downtown, boasting nearly 200,000 square feet of meeting space; and the oceanfront, 2,860-room Hilton Hawaiian Village in Honolulu.

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There is strong potential in the 35,000-room portfolio of upper-upscale and luxury hotels, and Park Hotels, through acquisitions of like properties in leading hotel and resort markets, already has holdings in 14 of the top 25 U.S. hotel markets.

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Park is one-brand concentrated right now, but the company says it “seeks brand and operator diversity over time.” This is similar to what happened in 1993, after Marriott International (NYSE:MAR) spun off what is now Host Hotels.

The pictures below illustrate Park’s diversified exposure to attractive markets:

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Around 74% of Hotel EBITDA comes from coastal markets, and 91% of Hotel EBITDA is from Top 25 Markets and resort destinations:

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While Park lacks diversified brand affiliations, the company mitigates the risk by owning such a diversified portfolio:

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Its portfolio’s strong group positioning increases visibility into forward bookings and reduces operating volatility by enhancing the stability and predictability of revenue throughout the lodging cycle.

Top 25 Hotels: Group/Transient Mix: 31%/63%. Park’s strategy will be to “Group Up” and drive that mix up another 400 bps to 35% Group demand. The portfolio contains 26 properties with over 25,000 sq. ft. of meeting space and 6 properties with over 125,000 sq. ft. of meeting space in top convention markets, generating robust corporate meeting and group business. Supply and demand trends favor large, group-oriented hotels for the foreseeable future.

Iconic Assets Valued at Well Below Replacement Cost

The REIT’s focus is on building a portfolio of Upper Upscale and Luxury branded assets in Top 25 markets and premium resort destinations. It pursues larger-scale deals (assets and portfolios) that offer significant value-add opportunities.

The company seeks to diversify its brand (beyond Hilton) and operator mix to include other global manager/franchisors. Park will opportunistically recycle capital, selling out of slower-growth, non-core assets and reinvesting in higher-growth markets.

Less competition exists on larger transactions, as only a limited number of investors have access to the equity needed to pursue $250+ million single assets.

Consequently, the share of deals pre-empted and executed off-market increases in conjunction with deal size, thereby enhancing the price negotiation leverage for an eligible buyer. Park’s balance sheet and operating platform are well positioned to execute these larger transactions.

Park focuses on owning hotels and resorts in the Luxury and Upper Upscale segments. The company focuses on recognizable products compared to independent hotels struggling to differentiate their offerings. Loyalty programs help to drive recurring sales, while lowering new customer acquisition costs. Hilton (~60 million members) and Marriott, including Starwood (NYSE:STWD) (~100 million members), have ~50% of sales stemming from customers within their loyalty programs.

Park has the ability to achieve increased direct-to-consumer sales, minimizing OTA/wholesale commissions and increasing revenue to the company. This means significantly lower distribution costs for the OTA business, given the negotiating power of brands.

Park can more effectively compete against Airbnb (Private:AIRB), particularly with respect to frequent travelers who appreciate the reliability and security of branded hotels.

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Active Asset Management: Hands-on Approach

Hilton continues to manage the vast majority of Park’s properties it spun off. Oversight of operations under Park creates a system of checks and balances that should eventually translate into higher profits.

Hilton, like most brand owners, doesn’t have corporate oversight of property-level management to make sure they are maximizing profits for the owner.

Park is able to maximize each asset’s full potential through a focused approach on revenue management and cost containment initiatives, while purposefully addressing capital needs, including ROI opportunities.

CapEx: Over $1.3 Billion Has Been Reinvested in Park’s Hotels

Park has invested heavily to drive market share and ensure strong competitive positioning of its portfolio. The company continues to consistently renovate to adapt to evolving customer preferences and the latest technology.

Renovations have been focused on guestroom design, open and activated lobby areas, food and beverage and public spaces, and modernized meeting spaces. Park creates value through repositioning select hotels across brands or chain scale segments, and exploring adaptive reuse opportunities for highest and best use. (No major deferred maintenance.)

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The Balance Sheet & Fundamentals

In December, PK repaid $55 million in maturing high-yield bonds, which carried a 7.5% coupon, leaving the company with a forward debt maturity schedule that is well-balanced and very manageable with no major maturities until 2021.

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As of Q4-17, net leverage stood at just 3.7x with ample liquidity to execute on PK’s strategic plan. At year-end PK had $2.8 billion of net debt outstanding:

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On the recent earnings call PK’s management team said that it would be able to buy back shares with disposition proceeds. Since the last quarterly call, PK has sold a total of 12 noncore hotels in 4 separate transactions, including 9 international assets accounting for approximately $379 million of gross proceeds at an average cap rate of 5.5%.

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The Latest Earnings Results

For Q4-17, PK reported total revenues of $686 million and adjusted EBITDA of $180 million, and adjusted FFO was $145 million (or $0.68 per diluted share). On a full-year basis, PK reported total revenues of approximately $2.8 billion, adjusted EBITDA of $757 million and adjusted FFO of $596 million (or $2.78 per diluted share).

For the full year 2017, PK’s comparable portfolio produced a RevPAR of $163 or an increase of 0.7%. The company’s occupancy for the year was 81.1% or a slight decrease of 20 basis points.

PK’s average daily rate was $202 or an increase of 0.9% versus the prior year. These top-line trends resulted in hotel-adjusted EBITDA of $709 million for the comparable portfolio, while the hotel-adjusted EBITDA margin was 28.1% or a 20 basis point decrease from the prior year.

For Q4-17, PK reported comparable RevPAR of $160 or an increase of 1.7% versus the prior year. The company’s occupancy for the quarter was 78.7% or 40 basis points higher, while the average daily rate ended the quarter at $203 or an increase of 1.1% year-over-year. These top-line trends resulted in comparable hotel-adjusted EBITDA of $175 million, while margins increased 70 basis points to 27.8%.

The Bottom Line: PK beat consensus quarterly FFO by $.06 per share.

It is PK’s intention to pay out an annualized 65% to 70% of adjusted FFO for the year. With Q4 earnings coming in line with expectations, the company paid out a Q4-17 step-up dividend of $0.55 per share in January.

Also, PK paid out its first-quarter dividend of $0.43 per share (to be paid on April 16 to stockholders of record as of March 30). Similar to 2017, PK is targeting a full-year payout ratio of 65% to 70% of adjusted FFO, with a potential top-up dividend to be paid in the fourth quarter (That may explain the reason that F.A.S.T. Graphs illustrates PK’s dividend yield at 9%+).

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PK has established RevPAR guidance of 0 to plus 2% for full-year 2018, with a comparable hotel-adjusted EBITDA margin range of -80 basis points to a +20 basis points, which will take into account many of the asset management initiatives.

For the full year 2018, PK anticipates adjusted EBITDA to be in the range of $705 million to $745 million, while adjusted FFO per share will be in the range of $2.59 to $2.75. Note that our earnings guidance does not include redeployment of proceeds from asset sales.

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Here is a snapshot of the FFO per share forecaster (using F.A.S.T. Graphs data):

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Pick Up Park For Peanuts

As noted, PK shares have declined by over 5% as a result of the recent HNA news, and as illustrated below, PK has returned -14% YTD:

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The last time I wrote on PK (December 2017) shares were yielding 6.1% and now they are yielding 7.4%:

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Given PK’s high-quality portfolio, it’s surprising to see such a high yield (with a sound payout ratio) and as you can see below, PK is trading at a discount to the closest peers – LHO (10.4x) and PEB (13.4x).

In fact, Park is trading at almost the same multiple as Chatham (NYSE:CLDT) (8.6x), suggesting that Park is getting absolutely no credit for its diversified platform and premium brand flags.

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Park has continued to report solid earnings momentum and the dividend true-up in 2017 suggests that this Lodging REIT is aligned with investors. Recognizing that HNA Group is in a “forced sell” mode, I plan to take advantage of the overhang and pick up a few more shares for peanuts. Clearly, Mr. Market does not recognize the value of this premium hotel REIT, but I know I am buying shares in Park Place not Pennsylvania Avenue.

I am upgrading Park from a Buy to Strong Buy (as noted: I am forecasting annual returns of at least 25%).

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Note: Brad Thomas is a Wall Street writer, and that means he is not always right with his predictions or recommendations. That also applies to his grammar. Please excuse any typos, and be assured that he will do his best to correct any errors if they are overlooked.

Finally, this article is free, and the sole purpose for writing it is to assist with research, while also providing a forum for second-level thinking. If you have not followed him, please take five seconds and click his name above (top of the page).

Source: F.A.S.T. Graphs and PK Investor Presentation.



I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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