Despite the bankruptcy filing of Extended Stay America a few weeks ago, Ashford Hospitality Trust (AHT) remains on solid footing. As my analysis demonstrated, even if Ashford’s entire mezzanine loan portfolio goes bad, they would still be in good shape. This means being able to meet all debt service requirements, meet all debt covenant requirements, meet the preferred dividend payments, and have plenty of cash on hand for capital expenditures and principal repayments due in 2010 and 2011.
The company sits on $240 million of unrestricted cash.
Today I want to talk about how RevPAR is doing on an industry-wide basis and how a change in interest rates would affect Ashford.
The bad news is that Smith Travel Research, along with other prognosticators, is anticipating RevPAR declines of 17.1% through year-end on YOY comparisons. The good news is these declines appear to be stabilizing and they are projecting a 3.7% decline YOY for year-end 2010.
I noted that Ashford experienced a 17% RevPAR decline in Q1, but was also able to offset those costs by slicing operating expenses by 15%. So the nearly $32 million decline in Room Revenue was offset by $27 million in expenses. That’s what I call solid management. This kind of cost savings filters all the way through the P&L statement, which is why Ashford remains in stable and solid financial position. Since they are able to meet all cash flow requirements, that leaves that $240 million in cash available to repurchase its shares.
The common and preferred are targets of the company, with the preferred returning a 20% yield. In fact, their cash position remains unchanged from 4Q08 despite repurchasing 11.7 million shares of the common and 1.4 million of preferred.
The company has principal due of $104 million next year and $294 in 2011. That brings up the question of whether Ashford will be able to refinance debt at attractive rates going forward. Right now, their average weighted cost of funds is only 3.37%.
As we know, we’re in a severe recession. Generally, in a recession, the Fed likes to keep rates low. So if nothing changes, Ashford won’t see too much of an increase for a refi. Will inflation remain low? Nobody knows, but what we do know is that the Fed is a believer in the output gap. Bernanke does not believe that inflation is driven by commodity prices or the falling dollar. He believes it is driven by the economy’s capacity to produce goods vs. the demand for those goods. Currently, capacity has remained the same, but demand has cratered. Demand will likely take years to recover to its former level. The theory, therefore, is that we will not see inflation.
But suppose there is inflation? In that case, it seems more likely that Ashford’s cost of funds will increase. But let’s not forget that inflation means the value of Ashford’s assets increases. Why? Because Ashford can raise rates on its hotel rooms. As expensive as new financing might be, the expectation is that additional cash flow from increased rates will more than offset the costs of new financing.
How is this actionable?
When the ESA bankruptcy hit, AHT dropped to $2.11, a price I said was a market over=reaction. The stock closed Tuesday at $2.61, a 25% increase, and off its post-ESA of $2.81, a 35% increase. The market valued AHT at $4.30 before the ESA-news, and there’s been no significant industry-wide changes in RevPAR since then. I see no reason why the stock should continue to trade at a 40% discount to its previous price, representing a 65% upside from here.
Going forward, if one buys industry expert calls that 2007 NOI levels will return by 2014, and the market rewards Ashford with the EBITDA multiple of 13 as it did before, buying now returns just under a 40% IRR.
Meanwhile, the preferred D shares trade at $10.35, which is actually 6% below the price it traded at after the ESA news. This stock is trading at a 60% discount to par and yields 20%.
I continue to see outstanding value in Ashford Hospitality Trust.
Full Disclosure: Long AHT common, long AHT preferred D.