Description

WH

We believe that Wyndham Hotels & Resorts is a compelling long.  As the largest hotel franchise company in the world they have substantial room for continued growth following the LQ acquisition.  Their synergy targets seem very achievable and management has a history of successful integrations. WH will follow in the steps of MAR and HLT which performed very well following their separations from their timeshare businesses.  

The first day of trading for Wyndham Hotels & Resorts (WH) was June 1st following a spin-off from Wyndham Worldwide Corporation (WYN).  WH completed its acquisition of LQ on May 31st (the transaction was announced on Jan 18th, 2018).

Following the acquisition of La Quinta, WH is the largest hotel franchise company in the world by a significant margin.  90% of the revenue is from fee for service agreements (their franchise agreements) which are also very high margin.

The acquisition of La Quinta for $1.95B was for 16.5x Franchise and 2017 Management Segment Adjusted EBITDA of $118M.  However, once you consider the 2018 EBITDA with synergies of $151-$172 it is only ~12x 2018 projected EBITDA. This includes $55-70M of synergies, however almost all these synergies are cost synergies.  With a combined cost basis of $1.6B, the synergy assumptions of $55-70M seem very conservative.

WH only assumes $3-5M in revenue synergies and those are just from adding LQ to their current credit card programs.  This likely understates the potential synergies from the acquisition, as there are likely to be significant benefit in being able to offer additional brands to their franchisees.  

There is also significant room to increase their royalty fee.  As they noted on their Analyst Day, they have historically grown hotels in China with a master license franchisee, with 2 master license franchise developers.  However, their royalty rate under this arrangement is 1-1.25%, significantly lower than their current 3.8% overall royalty rate. One of the master licences is for the Super 8 brand which has ~1500 hotels in China.  Given that the partner is a PE firm and WH has the right of first refusal it seems highly likely that WH will have a simple accretive deal to buy back the master franchise at some point over the next few years. However, they have now established a sales team in Shanghai and introduced brands that are selling at the same royalty rates as in the US.  This gives them significant runway to grow overall royalty rates in China and in other key emerging markets.

Overall this feeds into the other key part of the story which is that the majority of their hotels are in the United States, allowing for significant growth potential overseas.  Over the past 5 years Wyndham Hotels has grown at a compound annual rate of 12% to nearly 2,700 hotels. More than half of their pipeline is international, and the overwhelming majority of that is new construction.  This is driven by an international franchise sales platform of over 100 professionals in Europe, Latin America, India, China, Singapore and Australia. The addition of the LQ brings them an additional brand to sell through their existing channels.  The LQ brand itself at the end of 2017 only had ~2% of their hotels and ~10% of the pipeline outside the US, and only 1 person doing international franchising. The LQ brand has historically played well in Europe and Latin America. The stronger international presence of WH will greatly increase the value of LH and their ability to grow their international pipeline - a benefit is not reflected in management synergy guidance.  

As emerging market economies develop and grow, the ranks of the global middle class swell leading to strong demand growth for vacations and travel.  WH is the global leader in the economy and midscale segment - the segments that are likely to benefit from this emerging middle class demand.

With more than 5,700 franchisees and 8,900 hotels WH has great diversification of fee income.  Their largest franchisee owns 3% of the hotels in their system. With the average hotels per franchisee at ~1.5 there is also substantial room to grow this number over time as they continue to add more brands.  

Hotel Spinoffs have done well.  

MAR/VAC spin and the HLT/PK/HGV spin have done very well for the hotel companies.  By simplifying the business and allowing management to focus on the needs of the hotel side of the business, these pure play hotel stock has performed well following the spins.  By separating out the timeshare businesses also allows for a more closely aligned investor base. +q

MAR stock has done very well following the VAC spin in 2011.  

Similarly, HLT has also performed well following the PK/HGV spin in early 2017.

Valuation

Based on pro forma 2018 figures presented at their Analyst Day in mid-May WH is expected to generate $590-$610M in adjusted EBITDA.  They expect that they will achieve the full synergies for LQ by the 2H of 2019. However, management has historically been conservative with their guidance for integrations. For the AmericInn acquisition they expected to fully integrate the brand within 9 months of closing, but actually achieved targeted cost synergies within 6 months.  

WH expects to be able to achieve long term EPS growth of 8-14% with 3-5% of that coming from cash flow deployment.  We believe that with 148,000 rooms in the pipeline representing 18% of current rooms there is nice room for continued unit growth over the near term.   

The closest comp to WH is likely CHH which also operates in the midscale hotel area.  

We believe that WH will be able to grow EBITDA to 662M in 2019 and trade at a multiple close to CHH for a price target of $76 per share.  

WH management will continue a balanced capital allocation strategy similar to WYN.  They have declared a $1/share dividend targeting a payout ratio of approximately 30%.  There is also a share repurchase allocation in place of $300M, which management has clearly stated is not a “cosmetic authorization.”

Catalyst

Execution on LQ synergies. 

Quarterly reporting as a stand-alone company and providing additional color and details of their plan for growth.