On Thursday, Hilton Worldwide Holdings (NYSE:HLT) raised over $2.35 billion in the second largest IPO of 2013 and the largest hotel IPO to date. The outlook for Hilton, and hotel stocks in general, has been strong this year, which is a trend that should continue into 2014, making Hilton a good stock to buy.
Strength in Hilton, worldwide
Hilton, the world's largest hotelier, is expanding its worldwide portfolio at a rapid rate. The Blackstone Group that acquired Hilton in 2007 has seen the brand increase its number of rooms 36% and expand into 13 new countries. Post IPO, Blackstone continues to hold a majority of the voting shares.
At the time of the 2007 deal Hilton carried nearly $6 billion in debt. To pay that amount down, the chain's utilizing a franchising strategy. Hilton owns less than 10% of its over 671,000 rooms, and most of its revenue and 98% of its recent growth is from properties owned by third parties that require no capital investment. For those hotels it does own, CEO Christopher Nassetta plans to "grow the cash flow of those assets" by utilizing "them for time share, residential opportunities and retail."
Nassetta identified an additional revenue strategy: expand the portfolio in the upscale segment. PricewaterhouseCoopers reported that despite an increase in the supply of upscale rooms, occupancy rates are topping levels not seen since the 2008 economic downturn. Estimates show that in 2014 increases in revenue per available room, RevPAR, will be carried by the upscale segments.
Strength in the industry
The hotel sector has been doing well this year as a whole, with several key stocks trading higher than ever before. Shares of Marriott International (NASDAQ:MAR) have climbed 20% just this year, Wyndham Worldwide Corporation (NYSE:WYN) rose 32%, and Starwood Hotels and Resorts Worldwide (NYSE:HOT) increased 29%.
Despite an increase in hotel construction activity, demand should continue to outpace supply. Industry outlook reports for 2014 predict that for the fourth year in a row hotels will increase average daily rates by 4.6% and enjoy a 5.9% increase in RevPAR; 7.5% ahead of the inflation adjusted 15-year average RevPAR.
Across all hotel segments, occupancy rates should reach an average of 62.9%--not surpassing pre-2008 levels, but the highest they have been since.
Guest won't fare as well as investors
One writer for the Wall Street Journal's website MarketWatch thinks Hilton's "lobbies and loyalty programs both may get revamped" with some of the billions brought in by the IPO. While guests redeeming for a free award night tend to purchase additional nights and bring in dining revenue, Hilton's recent actions speak against an enhancement of its frequent guest program.
In February -- and again in April -- and again in November -- Hilton announced devaluations to its frequent guest program, HHonors. While not the only hotelier to make such changes this year, the Hilton devaluation was severe.
Citing portfolio expansion, Hilton added 3 new property categories. Some hotels now require up to 90% more points for a free award night. However, this increase is not limited to the new property acquisitions. Hilton also introduced seasonal pricing that increases the amount of points needed for a free night by as much as 20,000 points depending on the date. Finally, Hilton reduced the discount American Express Cardmembers receive on award bookings by as much as 31%.
As long as such devaluations do not alienate high-spending collectors of HHonors Points, investors should be happy to see Hilton capturing more revenue where it can. Increasing the redemption rates require a guest to spend more on paid nights before earning a free one. This theoretically increases revenue faster than the miscellaneous revenue brought in by guests on award stays.
Investors should find Hilton to be a good stock to buy. Since 2007's leadership change Hilton has demonstrated two successful growth strategies, and in 2012 increased net income by 28% -- 64% since 2010.
For this trend to continue look for Hilton's continued exploitation of expansion without capital investment. Look for revenue metrics, such as RevPAR and occupancy rates, to trend upwards. At the upscale segment and above, performance should match or exceed industry estimates. At the midscale and lower segments, even if pre-2008 levels are not met, overall growth should still be pulled upwards by the upscale segments.
Fool contributor Benjamin Szweda has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.