When ski resort companies or theme-park operators such as Intrawest Resorts (NYSE:SNOW), Vail Resorts (NYSE:MTN), and Six Flags (NYSE:SIX) are mentioned as potential investments, they are usually shrugged off as capital-intensive and cyclical companies. However, it is necessary to examine the underlying economics of their business models before coming to any abrupt (and possibly erroneous) conclusion.
High capital intensity means high barriers to entry
There is no denying that operators of leisure facilities are asset heavy, but this isn't necessarily a bad thing. The irreplaceable nature of these assets and the high capital investments involved help to keep new entrants at bay.
Vail's Vail Mountain ski resort is the largest and most visited in the U.S., while Intrawest either operates or owns three of the top 10 U.S. mountain resorts in terms of visitor numbers. Neither Vail nor Intrawest are likely to see their dominance being challenged anytime soon. Since Blackcomb Mountain and Deer Valley were opened in 1980 and 1981, respectively, there have been no major ski resort developments. Regulatory (government permits), capital (land and construction costs), and real estate (suitable space) constraints are the key contributing factors to this limited (or no) supply.
This is similar to the case of theme parks. New supply of domestic theme parks is very unlikely because of the significant amount of time and resources required. Six Flags estimates that it will take about two years and $300 million to build a theme park comparable to its own. Furthermore, the huge space requirements and zoning restrictions make it even harder to find a suitable location for a theme park, even if new entrants were willing to commit.
In addition, a population can only support a limited number of theme parks in any geographic area. Since most of the major markets are already dominated by incumbents, new theme-park operators face an uphill battle to grab market share from existing players. For example, Six Flags is the largest theme-park operator globally with 18 parks located in prime locations across the U.S.
Operating a leisure facility is probably 10 times more difficult than operating a restaurant. While there are many places to eat, there are even far more options to entertain yourself in the limited time you have. Ski resorts and theme parks compete with all forms of entertainment, including cruises, movies, and even mobile games. This is the common perception that investors have of leisure-facility operators, but the numbers say otherwise.
According to research by the National Ski Areas Association, ticket-price increases for North American ski resort visits have beaten inflation on average for the past 15 years. From the 1998/1999 ski season through the 2007/2008 ski season, ticket prices increased by a 4.4% compound annual growth rate compared with core inflation of 2.2% over the period. Even for the five years following the global financial crisis, ticket prices still grew at a CAGR of 2.7%, beating the core inflation rate of 1.6%. The rate of price increases for the industry has slowed since 2008, but not every company is affected to the same extent.
For example, Intrawest's customer base is generally more affluent and less price sensitive as a result. Its customers boast household incomes in excess of $135,000 on average and seem to be relatively unaffected by economic conditions. The results speak for themselves, with Intrawest having increased its gross margin from 9.9% in fiscal 2011 to 14.4% in fiscal 2013. Similarly, Six Flags doesn't seem to have problems raising prices. Its admission price per person increased from $20.70 in 2009 to $22.40 in 2012; while its adjusted earnings before interest, taxes, depreciation, and amortization margin rose from 24.4% to 38.9% over the same period.
Mitigating seasonal impact with recurring revenue
The leisure industry is also perceived as seasonal, with weather and school holidays affecting visitor demand. Leisure-facility operators have sought to smooth out the revenue volatility by adding an element of recurring revenue.
Vail currently boasts more than 350,000 season-pass holders who contribute about 35%-40% of its ticket revenue. In fact, it grew the amount of sales contribution from season-pass sales by a 14% CAGR from slightly above $50 million in fiscal 2006 to in excess of $150 million in fiscal 2014. This strategy isn't unique to Vail; Six Flags also tries to actively push season passes to its visitors. Season-pass holders made up 44% of visitors to Six Flags' theme parks in 2012 compared with a significantly lower proportion of 27% in 2008.
Foolish final thoughts
Leisure-facility operators have successfully mitigated the cyclicality and seasonality of their businesses by attracting more season-pass holders and raising ticket prices to offset inflationary cost pressures. In addition, they own valuable real estate that poses significant entry barriers for new competitors.