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Park Hotels: A Good Value With A Well-Covered Dividend And Growth Potential Following Merger With Chesapeake Lodging Trust

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About: Park Hotels & Resorts Inc. (PK), Includes: CHSP
by: Marel.
Summary

Q2 2019 was another solid quarter for Park, with RevPAR increasing 0.8% against difficult YOY comparisons and a challenging demand environment.

The merger with Chesapeake Lodging Trust offers opportunity to acquire a high-quality, well-maintained portfolio that is strategically consistent with Park’s existing platform.

Combined portfolio will include 66 hotels in 17 states and D.C. and combined enterprise value of $12bn, solidifying Park’s position as the 2nd largest lodging REIT.

The merger broadens Park’s brand and operator mix (providing exposure to Marriott, Hyatt, etc), increases exposure to San Francisco and penetration into key submarkets (Miami Beach, San Diego, etc) whilst reducing exposure to Hawaii (from 24% to 20%).

The merger will improve comparable RevPAR and be accretive to AFFO per share in 2020. Park offers good value at current prices: well-covered dividend (attractive ~7% yield) with growth potential.

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Park Hotels & Resorts (PK), headquartered in Tysons, Virginia, was established as an independent company in 2017, following its spin-off from Hilton. It is one of the largest publicly-traded lodging REITS with a portfolio of 48 premium-branded hotels and resorts with over 29,000 rooms located primarily in prime US markets with high barriers to entry.

  • over 85% of the portfolio is in the luxury or upper upscale segment
  • over 95% of the portfolio is located in the US, including locations in 13 of the top 25 markets
  • over 70% of the portfolio is located in the central business districts of major cities or resort or conference destinations

Hilton San Diego Bayfront Hilton San Diego Bayfront

Since the spin-off, Park has made substantial progress

Following the spin-off, the situation is as follows:

  • PK returned more than $2bn of capital to shareholders in the form of dividends and HNA stock buyback (buying back 14M shares at $24.85)
  • The dividend is well-covered with sector leading yield (~7%) and increasing (from $0.43/share to $0.45/share in 2019)
  • Strong and flexible balance sheet: Net Debt/Adjusted EBITDA remains within the stated target range of 3x to 5x and $1bn undrawn line of credit provides flexibility
  • Sold 15 non-core assets for $590M, while reducing exposure to international markets to ~1% of Hotel Adjusted EBITDA
  • Solid RevPAR growth in 2018 and 2019; exceeded peers by 65bps in 2018 and expected to exceed peers by more than 180bps in 2019

Significant free cash flow (after dividend payments)

During Q2 2019 results, PK provided the following FY 2019 outlook

PK 2019 outlook Source: PK Q2 2019 Earnings Release, pg 5

AFFO guidance for 2019 is $2.86-$2.98 per share (mid-point: $2.92) versus the current dividend of $1.8 per share, providing significant free cash flow (after dividend payments) for reinvesting in its assets, deleveraging, shares repurchases and other growth opportunities.

It is important to note that FY 2019 guidance excludes potential future acquisitions and dispositions, which could result in a material change to PK's outlook, including the effect of the acquisition of Chesapeake.

The merger with Chesapeake Lodging Trust is accretive to AFFO per share in 2020 and beyond

On May 06, 2019, PK announced a $2.7bn strategic acquisition of Chesapeake Lodging Trust (CHSP). PK will acquire 100% for a consideration of $31.00/share -- 0.628x fixed exchange ratio; $11.00 per share of cash. As shown in the graph below, PK timed this quite well in terms of its share price.

PK hotel share price merger announcement Source: May 6, 2019 Merger Presentation, slide 2

The merger with CHSP offers a unique opportunity to acquire a high-quality, well-maintained portfolio at attractive pricing that is strategically consistent with Park’s existing platform. Pro forma ownership will be ~84% Park / ~16% Chesapeake shareholders. The transaction equates to a 13.9x multiple on 2019E Adjusted EBITDA; 12.7x on 2020E Adjusted EBITDA.

The merger will enhance portfolio quality, with comparable RevPAR increasing nearly 4% to $182 and EBITDA margin increasing 60bps to 29.7% and provide brand, operator and geographic diversification. What's more pro forma leverage will comfortably remain within target range of 3-5x net debt to Adjusted EBITDA.

The combined portfolio will include 66 hotels in 17 states and D.C. and a combined enterprise value of $12bn, solidifying PK's position as the 2nd largest lodging REIT. PK anticipates CHSP's two NYC hotels and three Park hotels to be sold at or prior to closing, in addition to three non-core PK legacy hotels.

In terms of diversification, the merger will enable PK to:

  • increase exposure to San Francisco (expected to be one of the strongest hotel markets)
  • increase penetration into key submarkets (Miami Beach, Downtown LA, Boston, San Diego & Denver)
  • reduce exposure to Hawaii from 24% to 20% of 2018 Pro Forma Hotel Adjusted EBITDA
  • broaden brand mix, providing exposure to Marriott, Hyatt and IHG
  • enhance operator mix, adding exposure to 8 new operators, including Marriott, Hyatt and other third party operators

Importantly, the merger will provide synergies and be accretive to AFFO per share in 2020 and beyond. In particular:

  • estimated annual G&A cost savings of $17M ($9M cash G&A savings / $8M non-cash G&A savings)
  • potential for $8M of incremental EBITDA in 2020 and $17M in 2021 from asset management initiatives, including enhanced food & beverage profitability and increased ancillary income
  • RevPAR accretive – improves comparable RevPAR from $176 to $182 (3.5%)

The table below summarizes some key highlights of the merger:

PK merger summary table Source: May 6, 2019 Merger Presentation, slide 9

Following the merger, PK expects to maintain its quarterly dividend of $0.45 per share., with future increases supported by an already healthy dividend coverage ratio and well-capitalized and flexible balance sheet to support future growth.

Conclusion

PK is in a sweet spot even without the Chesapeake merger. That said, the merger will, among other things, improve pro forma comparable RevPAR, occupancy and EBITDA per Key, and ultimately be accretive to AFFO per share in 2020 and beyond. As a result, PK's already healthy dividend coverage ratio will further improve. Importantly, one must not lose sight of the significant underlying real estate value. For example, many properties are in super prime locations and densely populated areas (beachfront, downtown, etc). Since the spin-off from Hilton in 2017, I have been on the sidelines but now feel Park offers good value at current prices, with an attractive ~7% dividend yield and growth potential.

Disclosure: I am/we are long PK. 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.