La Quinta - Caution As Private Equity Is Preparing To Sell This Debt-Loaded Company

Apr.20.14 | About: La Quinta (LQ)


Blackstone is partially exiting another hotel business.

Solid growth driven by asset-light franchise growth focus.

Yet suboptimal earnings and leverage limits appeal.

La Quinta Holdings (NYSE:LQ) went public in the second week of April. The owner, operator and franchiser of mid-scale and upper-scale hotels went public in an offering which has not been a great success.

Suboptimal earnings and a relatively high debt position are the main reasons for me to pass on this offering.

The Public Offering

La Quinta is a rapidly growing hotel service brand, which more than doubled its hotel count within the past decade to 836 hotels in September of 2013. These properties are located in the US, Canada and Mexico as the company has a total of 84,000 rooms available for guests.

La Quinta sold 38.25 million shares for $17 apiece, thereby raising $650 million in gross proceeds. The company received all of the cash in the offering with no shares being offered by selling shareholders.

While Blackstone is not directly involved in the sale of any shares at this point in time, the public offering does create liquidity for the private-equity giant to directly sell shares later this year. Blackstone already saw its shareholding being diluted to 66.7% as a result of this offering.

The offer of the hotel chain was a bit disappointing with bankers and the firm trying to sell shares in a preliminary $18-$21 price range. A rather sizable 30% of the total shares outstanding were offered in the public offering. Trading at $17.15 on Thursday's closing price, the equity in the chain is valued at $2.1 billion.

The major banks that brought the company public were J.P. Morgan and Morgan Stanley.


La Quinta has shown rapid growth in recent years and has a healthy pipeline of 175 franchised hotels to be opened in the near future. Of the 836 hotels represented by the chain, some 370 are owned and operated by the firm while the rest are franchises. The vast majority of these hotels focus on the mid-scale segment with fewer amenities than the luxury segment which results in a cost-efficient structure.

For the year of 2012, La Quinta generated revenues of $818.0 million, which were up by 8.8% on the year before. The company posted a full year loss of $31.0 million, which compares to a $63.5 million profit a year before despite the fact that operating earnings were on the rise.

Topline growth continued in 2013 as revenues for the first nine months of the year rose by 6.8% to $673.4 million. Net income plunged from $46.2 million to $8.6 million in the same time period.

Actually La Quinta has been acquired by private-equity business Blackstone which paid $3.0 billion to acquire the chain in 2006. While the company has access to $49 million in cash before receiving the IPO proceeds, the 2006 buyout left the company saddled with debt. La Quinta has $2.8 billion in debt outstanding, which even after the offering results in a sizable net debt position.

La Quinta paid roughly $111 million in interest on its debt in the first nine months of the year, putting its annual interest bill close to $150 million. This results in an effective interest rate of roughly 5%. As such, the gross proceeds of $650 million could boost earnings by some $30-$35 million on a pre-tax basis.

The $2.1 billion equity valuation values the company at roughly 2.3 times revenues assuming annual revenues of $900 million. Earnings are limited, although deleveraging could boost earnings growth going forward. Even then, the price-earnings ratio is still rather steep.

Investment Thesis

As noted above, the offering of La Quinta has been rather difficult. Priced at $17 per share, the offering took place at a 8.1% discount from the midpoint of the preliminary offering range. Shares failed to gain ground from those levels trading around the offer price at the moment of writing.

It is easy to understand why investors stay away from this offering. Not only are private-equity firms offloading assets on a large scale in recent months, La Quinta is showing suboptimal profitability while the chain carries a lot of debt. This is not a problem as long as things are going well, like they are at the moment.

Average daily rates rose by 4.4% so far in 2014 to $79.71 per room, while occupancy rates improved by nearly 1.5% to 66.4%. Despite the positive developments, the leverage incurred could be an issue if the economy takes a turn for the worse as occurred in 2009.

For now La Quinta is showing solid growth, focusing on the franchise growth model. This results in lower capital investments while it generates stable revenue cash flow royalties going forward. Furthermore, recent investments in franchising have resulted in a relatively young portfolio of hotels, which makes them appealing with travelers.

Despite all of this I remain cautious. Lack of earnings, despite the expected boost from the reduction of leverage, the high leverage in total, and the already healthy operating conditions make me cautious on La Quinta.

Disclosure: I 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.