As the hotel industry undergoes massive disruption from COVID-19 closures resulting in revenue shutdowns, some groups, like Hilton Worldwide Holdings Inc. (HLT), are confident that the worst has passed and brighter days are ahead. While Hilton’s stock has reflected that sentiment since the Q2-20 earnings release in the first week of August, some softness has set in between then and now. The stock currently trades, as of this writing, at $84.49, which is still 25% below the $110+ level it was trading at prior to the economic shutdowns around the globe.
Thesis: Upsides from reopenings around the world, as well as key safety initiatives to attract guests, pipeline room count, international expansion, current cash position, and other factors, make HLT an attractive buy at this price point.
Recovering from Global Economic Shutdowns
As many countries around the world start reopening their economies after complete shutdowns, 96% of Hilton’s properties were open as of July 31, 2020, leaving only 260 hotels still temporarily closed. Though that’s good news, it is dampened by the fact that occupancy rates are still as low as 22.3% system-wide.
In terms of recovery, Asia-Pacific, which led the way for COVID-19 infections, seems to be bouncing back early as well. Occupancy rates for the region were at nearly 30% by the end of June 2020. RevPAR (revenue per available room) and ADR (average daily rate) were down by 33% and 72%, respectively, which are among the best figures reported across all of Hilton’s market segments for Q2-20.
In the U.S., RevPAR was down by as much as 80% for the period but occupancy rates were near the 25% level, indicating some positive momentum toward the end of the quarter.
Overall, occupancy was down 35%, ADR was down 13%, and RevPAR was down 54% for the first half of FY-20. By comparison, the respective figures for the second quarter were -56%, -33%, and -81%. This obviously indicates that Q2 took most of the hit from pandemic-related closures.
However, things appear to have started reversing course over the quarter. From the Q2-20 earnings release:
Since April, all major regions have experienced month over month increases in occupancy and RevPAR. Hilton experienced the most notable recoveries in the U.S. and Asia Pacific with occupancy levels up approximately 20 percentage points and 15 percentage points, respectively, from April to June.
From the Q2-20 earnings call:
System-wide occupancy rebounded from a low of roughly 13% to approximately 45% currently, with all major regions improving. In Asia-Pacific, performance is largely driven by rebounds in both leisure and business transient travel in China, where occupancy is more than 60%. In the Americas, occupancy is over 45% boosted by increasing demand for limited service hotels and drive to leisure markets. During the 4th of July weekend, nearly 800 hotels in the U.S. ran over 80% occupancy. Across Europe, Middle East and Africa, occupancy is generally around 30%, although easing government restrictions and continued reopening should help drive further improvements there.
As the world continues to reopen, travel restrictions around the world continue to ease up, with several countries establishing strategic travel bubbles with other nations in an effort to revive international travel. This will have a direct positive impact on Hilton’s metrics over H2-20 because ‘business transient’ is nearly 20% of its revenue. Moreover, the major leisure stay segment is expected to trail off slower than last year because of schools remaining closed and a large percentage of the workforce working virtually.
Evidence of that was already seen in the figures reported for the start of the third quarter, and the momentum of improvement should increase further through the remainder of FY-20.
Hilton is preparing for a new wave of safety-conscious customers with key initiatives such as Hilton CleanStay and Hilton EventReady, both of which are designed to encourage guests to re-start their interactions with the hotel’s properties around the world.
The CleanStay program is being rolled out in partnership with the Mayo Clinic and UK-based Reckitt Benckiser Group plc (OTCPK:RBGPF) (OTCPK:RBGLY), the makers of Lysol and other hygiene products. It involves several modifications to housekeeping procedures and changes to common area layouts to better facilitate social distancing.
The company is also enforcing the wearing of face coverings in all indoor public spaces on its U.S. properties.
In addition, Hilton is expected to benefit from the pre-pandemic initiative involving the Hilton Honors mobile app. The app gives Honors members the ability to check-in and check-out, select rooms, and even communicate with hotel staff from their mobile devices. The contactless nature of this ecosystem also includes digital room keys that are now enabled in the bulk of Hilton’s properties around the world.
Obviously, the idea here is to be able to give their guests the confidence that all is well and that safety is the hotel’s number one consideration for its guests – all of this while not losing the “exceptional customer service” element that Hilton seeks to extend to all its guests.
These initiatives are certainly not unique to Hilton; they are merely a ‘new normal’ set of standard operating procedures being adopted by consumer-facing businesses around the world. Still, it will strengthen the company’s image in the short run and help regain guest confidence in the coming months.
As the pandemic continues to evade the efforts of health bodies and governments around the world, Hilton is busy expanding its global presence. This shows a great amount of confidence by management that things will eventually get back to normal, and it should be a significant validator for investors as well.
During Q2-20, Hilton opened 60 hotels with a total of 6,800 rooms. Net room additions for the quarter are at over 5,500 rooms.
In the pipeline are over 2,700 hotels with more than 400,000 rooms, but the significant takeaway is that the expansion covers 35 markets in which Hilton does not yet have a presence. There are currently over 200,000 rooms under construction and more than half the pipeline rooms are located outside the U.S.
The Hilton has also entered into a management license deal with Guangdong, China-based Country Garden Holdings Company Limited (OTCPK:CTRYF) to develop the Home2 Suites by Hilton brand, an “upper midscale” extended stay offering that will eventually span over 1,000 properties. Home2 Suites by Hilton is a fast-growing brand comprising nearly 500 hotels across North America. Prices range from $60 a night to $189 a night per the information on the website.
Country Garden is a family-owned property development company with a market cap of nearly $30 billion, and the company is a powerhouse in the markets it operates in. With over 200 high-end township developments under its belt across China, Malaysia, and Australia, the company has had tremendous success with both domestic and overseas projects. According to a local report from 2014, its 296-unit Ryde Garden project in Sydney sold out in just 6 hours!
The midscale hotel segment in China has been growing at a +50% rate over the last two years but still only represents 16% of total room inventories as of January 1, 2020. There’s massive potential here, and the timing is right for Hilton and Country Garden to take advantage of it.
Hilton is standing on relatively solid ground, financially speaking. Although the company has suspended its dividends and stopped repurchasing shares, the main objective of those actions has been to maintain optimal liquidity in the unpredictable months ahead.
Going deeper into cost savings, the company has cut more than 20% of its corporate roles across its global offices, announced corporate pay cuts, and further extended the furloughs announced in March 2020 at the start of property shutdowns.
Despite the bleak picture this paints, Hilton is not a floundering entity by any means. As of June 30, 2020, the company had a little under $3.6 billion in cash and cash equivalents and a manageable debt position:
Excluding finance lease liabilities and other debt of Hilton’s consolidated variable interest entities, Hilton had $10.3 billion of long-term debt outstanding with a weighted average interest rate of 3.86 percent and no maturities until 2024.
As for risk, it’s clear that getting back to normal levels of occupancy and average daily rates might not be on the cards in the immediate future. Not only will the company need to deal with the short-term effects of the pandemic in terms of a gradual reopening of economies around the world and eventual vaccine availability, but also with the medium-term impact of lower discretionary spending over the next year to two years as the world’s major economies recover. Per Hilton president and CEO Chris Nassetta:
I think my own view as I said it last time I think its 2 or 3 years to sort of get back to the demand levels that we were experiencing in ’18 and ’19. But I think it’s sort of – that is sort of the broader trajectory we will be in this hopefully 45%, 50% range and then moving our way steadily, slow and steady up from there.
Overall, the outlook is a lot more positive than the market seems to think, and that’s really where the upside comes in. At these depressed levels, it’s a good time to invest in a strong brand that will eventually bounce back. The fact that expansion and partnerships are still happening at a reasonable pace, occupancies are getting higher, and the company’s cash and liquidity positions offer significant buffers against lower cash flows over the next few quarters speak to the resilience of the Hilton brand.
The company’s cautious use of funds will need to continue for the foreseeable future, but it is my opinion that Hilton has the ability to overcome the crisis.
Investors and analysts alike are being hesitant about HLT, but the latter are largely positive on the stock in terms of their one-year target prices: MarketBeat shows a 5% upside to the current price, while WSJ shows a much more cautious 0.7%. Nomura, on the other hand, had a target of $121 for HLT as of June 23 which, at the current price, indicates an upside of more than 40%.
Under these circumstances, the hesitance to put out a positive outlook or to consider investing in Hilton is understandable. Nevertheless, the long-term prospects look attractive enough if you’re willing to stay invested for the next 3-5 years. I do see dividends eventually being reinstated, and there’s still $2.2 billion remaining in the current stock repurchase program authorization. As free cash flows start to normalize in FY-21, the company will be able to start deleveraging and once again returning cash to its shareholders, while the stock should give you a fair amount of capital appreciation.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.