Vacation Ownership Interests (or VOIs) can be assumed to be the essence of this month’s investment opportunity. Despite the tarnished reputation that is commonly associated with timeshares from a consumer standpoint, as an investor, there’s some definite appeal to owning shares in a company that offers such ownership interests, especially as the industry is looking poised for growth…
March’s “Pick of the Month” is none other than the Travel + Leisure Company (NYSE:TNL). (Throughout this piece, TNL can be assumed to be an acronym for the Travel + Leisure Company.)
I found the company when screening for companies with negative book values*, a reasonable EV/EBITDA and a P/S of less than 2x.
There is some brief company history that is worth pointing out (for the sake of clarity) –
TNL have been around since 1990 and can be traced back to the name “Hospitality Franchise Systems” – an affiliate of Blackstone created as a vehicle to acquire hotel franchises. Seven years later, HFS merged with CUC International (a direct marketing company) to form Cendant Corp, which failed quite miserably and resulted in a financial scandal after revenues had been inflated by about $500m over three years.
After a series of divestitures following the scandal and more acquisitions post-scandal, in 2006, Cendant spun off the real estate (Realogy) and hotel divisions (Wyndham Worldwide), whilst rebranding itself as Avis Budget Group (NASDAQ:CAR). Our story continues with Wyndham Worldwide (WYN) that began trading on the NYSE.
From 2006, we jump to 2018 where Wyndham Destinations was established (the VOI business) and the hotelling business (Wyndham Hotels & Resorts) was spun-off. Finally, in 2021, the Travel + Leisure (T+L) brand was acquired from the Meredith Corporation for $100m, who continue to operate and monetise T+L assets under a 30 year royalty-free relationship. The company also changed its name from Wyndham Destinations to T+L.
Of course, with this merger, there are two main components of TNL – VOIs (~80% of total revenues) and the Travel & Membership, both of which will be discussed in more detail below.
From an initial standpoint, the stock looks cheap (in a classical sense) to be trading at less than 9x earnings and less than 8x forward earnings. To also have a PSR of less than 1x when the company earns about 7% annually on tangible assets, further implies a cheap valuation, especially when compared to competitors.
Unfortunately, it’s just not that simple and, when looking at VOI companies, it is important to realise that accrual accounting works wonders for their income statement and it is really the cash flows, which provide a more clear picture, that analysts should focus on.
In FY 2023, TNL generated unadjusted free cash flow of $276m (compared with GAAP earnings of $396m) which yields about 8.5% against the market cap of $3.2b. That’s not nearly as cheap as the 9x earnings multiple that we see.
Let’s delve slightly deeper than this “lazy analysis” and begin with the VOI segment of the business which caters to 804k customers:
Competitors include Marriott Vacations Worldwide (trading at 30x FCF), Hilton Grand Vacations (trading at 20x FCF), Disney Vacation Club and Holiday Inn Club Vacations. As you will see, TNL is the cheapest (but not “cheap” by most value investors’ standards).
A key statistic to watch closely is the VPG (or volume per guest) which is defined as gross sales divided by sales tours. In 2023, this figure stood at $3.1k (663k tours!) down 8% from $3.4k in 2022. This shows us that whilst more VOIs were sold, less people were interested compared to last year. This statistic is one that should be tracked along with the usual suspects.
(By comparison, in 2023, Marriott had a VPG of about $4k and Hilton had a VPG of $3.8k – both are better figures, but not fantastic enough to warrant such a value divergence!)
For those of you who are unfamiliar with the analysis of the financials of timeshare companies, it is important to realise that TNL books the full revenue at the time of the sale of the VOI (even though the customer financing can take up to 10 years and customers only have to make a down payment of 10% (although, the average down payment was 19%)). At that point, TNL books the outstanding balance in their Vacation Ownership Contract Receivables (VOCRs) debit entry with a large portion of those receivables (~70%) then getting securitised through bankruptcy-remote special purpose entities and sold for cash with advance rates of over 80%. Naturally, from these securitisations a large financial obligation builds on the balance sheet and at YE 2023, this non-recourse “debt” balance stood at $2b.
(For those interested, the SPE had total assets of $2.4b against equity of $343m implying a leverage ratio of 7x which I feel is quite moderate and well-funded.)
What you should also realise about the VOCRs is that on the balance sheet they are actually understated with estimated fair value running about 12% higher than the carrying amount you see on the balance sheet, further enhancing investors’ margin of safety.
Having also renewed their conduit facility with until 2025 with $388m available as of YE 2023 and the ability to issue term receivable-based securities, there seems to be plenty of liquidity available to finance the sales of more VOIs in the near-term.
As a result of all of these large receivables, there is a growing deferred tax liability on the balance sheet ($721m as of YE 2023) because of the difference between taxable income and the aggressive revenue recognition described above. According to Bennett Stewart (the author of bestseller, The Quest for Value), there is real value to paying taxes as late as possible since it is essentially “interest-free capital” (i.e the cash can be put to work elsewhere, working capital is more manageable….)!
Enough of the accounting for long-term contracts. What about the more simpler, recurring revenues? Well, the recurring revenues (which included management fee revenues and reimbursable revenues) totalled $814m in 2023 with customer financing also averaging around $400m/annum.
With regards to inventory, TNL had $1.1b of inventory at YE 2023, of which $899m was completed VOI inventory and $200m was estimated VOI recovery. It is important to note that as VOI inventory is completed it is transferred into P&E until the units are registered and made available for sale. Once registered and available for sale, the units are then transferred back into completed inventory.
TNL had net transfers of VOI inventory to property and equipment of $16 million during 2023 and $256m of unregistered VOI inventory.
The other interesting fact about the inventory is it is often understated on the balance sheet (being recorded at the lower of cost). For reference, the cost of VOIs (which takes place in the same period that the revenues are generated in) in comparison to VOI sales was under 10% of the sales price in 2023! Of course, inventory turnover in this industry is slow and it is also important to realise that the company uses the relative sales method to record the cost of VOI sales.
The second (and less significant) segment to TNL is the Travel and Membership segment which includes vacation exchange brands, travel memberships and DTC rentals. The segment earns through a primarily fee-for-service model as well as selling third-party goods.
This is much smaller compared to the VOI business and only generated revenues of $711m with AEBITDA of $247m. The RCI travel club (world’s largest vacation network) is especially valuable to TNL because it allows members (who have bought a timeshare) to exchange timeshares. There are 3.5m RCI members (85% retention rate) and 4,100 resorts in the network.
The Travel Club also provides discount travel to customers on top of custom travel tech solutions to B2B affinity partners (including banks, retailers and trade associations). The Travel Club is a very small portion of TNL’s overall revenues (generating $156m through transactions).
Today it may seem that the Travel & Membership segment is a drag on earnings with pretty expensive capex and marketing spend (in comparison to the VOIs), but you have to see it as a longer-term play that will cement TNL’s place in the travel industry.
There is also the apparent issue of a negative book value. Negative equity businesses aren’t necessarily bad businesses provided they have strong enough cash flows to negate the financial leverage found on the balance sheet. A very good real-life example of this would be Yum! Brands (after being spun-off by Pepsi) in the late nineties that was loaded with debt.
To me, TNL is a similar situation in that I’m not fearful of any solvency concerns. Whilst we can assume the $2b in securitisation debt as non-core to TNL’s operations, TNL do still have $3.5b in vanilla debt with approximately half a billion dollars in principal due every year from now until 2030. Even then, I’m not overly concerned with over $250m cash on the balance sheet and consistent annual free cash flow of over $250m. Refinancing should not be too difficult even if (net) interest payments as a percentage of sales picked up to 6.3% in 2023 from 4.7% in 2022 (due to higher interest rates). It seems to me that we’re approaching a new normal and we’re past the worst of the rate hikes.
Further, it would also be true that TNL would have a positive book value if they hadn’t bought back over $7b worth of shares over the course of its public history. Would TNL be more investable with a positive book value but no share buybacks? To me, that question does need commenting on. In this way, I’m not so worried about the “negative equity” situation.
In fact, let me be very clear in that, as is common with my picks, I’m only interested on a going-concern basis. Liquidation, private market value… I’m not really that interested nor do I care to work it out. Compounded cash flows are what makes this investment so irresistible.
If we briefly look at the cash flows of TNL, you’ll notice that profits plus noncash charges and before changes in working capital, for the last three years have been as follows: $934m, $871m, $594m.
The growth is staggering and the only reason that cash flows appeared to stagnate in FY 2023 is due to the massive increase in receivables – but an increase in receivables (no matter how bold the accounting) suggests undeniable growth. And that growth hasn’t been fully reflected in the share price yet which has only appreciated 1% in the last five years. Wall Street just haven’t taken the company as seriously since the spin-off and are hesitant to engage in the expansion of multiples.
To further prove my point about the cash flows, if we take the trailing three years cumulative free cash flow totals close to $1.2b or about $400m annually. That’s a multiple of 8x against the current market price. It seems reasonable to me and should be reasonable for you provided you can hold a stock for a long period of time…
With regards to the general industry, it seems that youngsters are starting to warm to timeshares with Gen X accounting for one-quarter of new owner sales and millennials and Gen Z’s accounting for more than 40% of new owner sales. Reasons for purchasing timeshares are often along the lines of saving money on future vacations, a strong location, certainty of a vacation and the flexibility to use different locations/units/timeshares. It seems that this VOI “boom” could continue provided economic conditions remain stable. This is also backed up by the fact that new VOI owners nearly double their initial VOI purchase within six years (according to TNL).
The management of TNL also seem astute with Michael Brown (CEO) joining the company in 2017 and, within twelve months, spinning off the hotel business. In the past, Mr Brown was COO of Hilton Grand Vacations (where he worked for close to a decade) and, prior to that, he worked 16 years at Marriott International. Two points stand out to me – he stays for long periods of time and he’s very experienced in the industry. He gets the sign off from me!
The second interesting manager at TNL is Sy Esfahani (CTO) who has a less obvious career path. Prior to joining TNL in 2021, Mr Esfahani worked at Qatar Airways as CIO where he performed a digital transformation so well that he achieved “5 star” customer touch points. Prior to Qatar, he also worked at MGM Resorts where he launched the first mobile kiosk and digital check-ins capable of offering digital keys to the rooms.
Overall, I have been very impressed with management and don’t have any bones to pick with them. It is also one of those rare occasions where I’m impressed with the Board of Directors, too. Chairman Stephen Holmes has been involved with TNL since their beginnings at HFS in the nineties! Further, the majority of the Board do seem to be independent with sound careers and experience.
These intangible traits of TNL make them investable – there are many, many other companies trading at similar valuations but because management give the wrong impression or the Board seems too afraid to stand up to management, shareholders will at some point lose out making the risk simply too great for someone like myself to invest. I also want to point out that Michael Brown, since becoming CEO, has consistently purchased shares on the open market buying close to $1.2m since mid-2018.
There are also short-term catalysts in the work – management want to increase the dividend to $0.5/qtr from $0.45 and are awaiting Board approval.
Further, they are growing their VOI business internationally with the acquisition of Accor Vacation in Australia + New Zealand. Expanding internationally means that there is a little bit of geographic and economic diversity should unexpected events occur.
On top of international expansion, TNL are optimising their VOI business domestically by targeting sport hotspots having acquired the vacation ownership rights to Sports Hospitality Ventures, LLC. The first location is to be built at the University of Alabama and anticipated to open in the second half of 2025.
The obvious risk to investing in a timeshare company is that they’re cyclical and in a severe downturn can get hit quite hard (especially if they haven’t lent to the right customers!). Secondly, there is an element of financial leverage that can have a double-whammy effect to shareholders in a poor economy.
Inconclusion, a trendy cyclical that’s growing with 98% annual retention (of owners), virtually no price discovery over the past five years, plenty of balance sheet strength and strong returns on assets… I think it’s worth some serious consideration from fundamentals-driven investors.
Feel free to ask questions via the contact page (should you have any).
Best investing,
HV
*For those of you who are wondering why I was screening for companies with negative book values, my reasoning was that because I was struggling to find much with my normal screens (outlined in earlier posts), I decided to try and look for “cheap” companies that had unnecessary negative stigma. Provided that the company generated sufficient cash flow (likely given that my screen requires an EV/EBITDA of less than 15x), maybe some leverage wasn’t the worst poison.
