Is Newly Public Hotelier Hilton a Good Bet?

Iconic hotelier Hilton came back to the public markets in October, allowing majority owner Blackstone Group to cash out of part of its position. Is it a good bet in lodging?

Feb 9, 2014 at 3:33PM

Iconic hotelier Hilton Worldwide Holdings (NYSE:HLT) is back in the public markets after a six-year hiatus that resulted from an October 2007 buyout led by investment company titan The Blackstone Group. The years away from the public glare allowed the company to retool its strategy, including a focus on international growth opportunities and a move into the extended-stay sector via its Home2 Suites brand. Not coincidentally, Hilton's reemergence comes during a multi-year industry upswing that has seen demand outstrip supply by a solid margin, according to data provider Smith Travel Research. So, is Hilton a good bet in lodging?

What's the value?
Hilton is the kingpin of the hotel business, with an affiliated network of more than 4,000 hotels and 670,000 rooms across a footprint of 90 countries. The company is primarily a franchisor of properties, managing Hilton-branded hotels for third parties while maintaining ownership of a select group of trophy properties, like New York's Waldorf Astoria Hotel, which allows it to showcase its top brands.  Hilton's operating model allows it to efficiently focus its resources on creating demand for its franchisee partners, including its HHonors loyalty program, which accounts for roughly half of the company's room night volume.

In fiscal year 2013, Hilton has managed to post a small top-line gain, up 2.2%, aided by continued growth in its affiliated network of properties and a healthy gain in average room pricing. More important, the company's focus on maintaining efficient operations, by limiting its activities to the management of properties, has allowed it to report an uptick in profitability during the current period. The net result has been a higher level of operating cash flow, thereby enabling Hilton to continue whittling down its massive debt load.

Lower-risk options in lodging
Certainly, Hilton is well positioned for further upside in the global lodging business, with a development pipeline of roughly 185,000 rooms, 60% of which are located in international markets. However, the company's aforementioned debt load, roughly $12 billion, will likely become a heavier weight as interest rates inevitably rise, perhaps sooner rather than later given the Federal Reserve's recent switch to a less accommodating posture.

As such, investors should look for global hotel operators with a more prudent financial position, like Hyatt Hotels (NYSE:H). The owner of a diversified portfolio of brands, from Park Hyatt at the high end to Hyatt Place on the low end, has been in growth mode lately, including a major expansion in the extended-stay sector through its Hyatt House brand. The launchpad of Hyatt's growth strategy was a 2009 initial public offering that padded its cash position and provided greater financial flexibility to pursue global development opportunities.

Like Hilton, Hyatt's top line has benefited from improved occupancy levels and higher average prices in FY 2013, leading to a 4.9% gain in overall revenue. The solid pricing environment, courtesy of a better industry supply/demand balance, has also led to better profitability for the company, evidenced by a nearly 10% jump in adjusted operating income during the period. As a result, Hyatt currently enjoys a strong financial position, which is allowing it to expand its brand presence in new locations, including the first foray for its Hyatt Regency brand in Mexico City, one of the world's largest cities.

Also intriguing in the global lodging sector is Wyndham Worldwide (NYSE:WYN), the operator of the largest affiliated-hotel network in the world, encompassing more than 7,400 properties. Of greater significance, though, are the company's strong positions in the vacation-rental and ownership sectors through its Wyndham Vacation Rentals and Vacation Resorts units, both of which are the top players in their respective arenas.

Unlike Hilton and Hyatt, Wyndham owns virtually no properties, generating its revenue from fee-based services. As a result, the company enjoys a superior adjusted operating margin relative to its two named competitors despite a much lower average occupancy rate for its affiliated network of properties, currently 58.1%. More important, the company earns a majority of its operating income from the vacation-rental and exchange segments, higher growth areas of the lodging industry that position Wyndham for future profit gains and incremental shareholder value.

The bottom line
Hilton is back in the public markets, but its marginally positive stock price performance since its initial public offering indicates that investors may be questioning the wisdom of its debt-heavy balance sheet. Given that interest rates have nowhere to go but up, investors need to stay away from this lodging icon and focus on its less-indebted competitors with global footprints, like Hyatt and Wyndham.

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Robert Hanley has no position in any stocks mentioned. The Motley Fool recommends Hyatt Hotels. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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