APLE - Apple Hospitality REIT: Time To Take A Bite

2023-05-30 05:09:50 ET

Summary

• Well-diversified hotel portfolio with strong branding.
• Q1 2023 earnings show the company's continued recovery from the pandemic.
• Current forward dividend yield of 6.62% and share price makes it an attractive entry point.

Introduction

I last covered Apple Hospitality REIT ( APLE ) earlier this year in February , prior to the release of its Q4 2022 and FY 2022 earnings. Back then, I rated the company as a "Hold", with my main issue being that I felt APLE stock was too conservative with its dividends, having a low dividend payout ratio. Since I wrote about the company, its share price has dropped from $17.46 to the current $14.54. With the release of the company's Q1 2023 earnings at the start of the month, I take a look at the company and re-evaluate if my investment thesis holds true.

Business Model

Apple Hospitality REIT is an internally managed hospitality REIT that specializes in upscale, select-service hotels. With a portfolio of approximately 29,000 rooms across 220 hotels, the company primarily operates under well-known brands such as Marriott and Hilton. These hotels follow a lean and efficient operational structure, resulting in higher operating margins due to lower fixed costs. Well-diversified geographically with the hotels located in 87 markets across 37 states, the hotels benefit from exposure to diverse demand generators. Apart from 1 market taking up 14% of the company's earnings, no other market contributes more than 5%. Additionally, the company continually reinvests in its hotels to maintain their competitive advantage, with its hotels being renovated every 5 years on average.

The company does not operate its hotels directly. Instead, its hotels are operated and managed under management agreements with 17 separate hotel management companies. Approximately 85% of the company's hotels operate under a variable management fee arrangement. Under this arrangement, the management fee is tied to a range of financial and quality performance metrics, including operating profit and guest satisfaction scores. Compared to the typical base-plus-incentive management fee structure, this approach encourages a balanced focus on various factors rather than solely prioritizing operating profit.

Q1 2023 Earnings

Apple Hospitality REIT continued its recovery from the effects of the pandemic, exhibiting positive growth across virtually all metrics compared to the prior year. The company's revenue of $311.45 million reflected a close to 20% increase from the $260.48 million recorded in the same period last year. Perhaps more significantly, the company's net income was $32.92 million or $0.14/share, an impressive 80% surge from the corresponding period last year. The company's revenue per available room (RevPAR) of $109 also exceeded figures reported in Q1 2022. The image below shows how the company's performance compares favourably against the pre-pandemic levels.

In terms of guidance, the company has reaffirmed its guidance for the full year - net income between $165 and $209 million. For perspective, net income came in at close to $145 million last year. However, the CFO mentioned during the earnings call that the results for the first quarter actually came in toward the higher end of the company's internal projections.

Balance Sheet

When it comes to the company's balance sheet, the company has approximately $1.4 billion of outstanding debt with a weighted average interest rate of 4.30%. It is worth highlighting that the majority of this debt (78%) consists of fixed-rate debt, providing stability and predictability to the company's cash flows. Regarding the debt maturity schedule, just over 10% or $156 million is due by the end of 2024, while over $900 million is due only starting from 2027 onwards. In terms of liquidity, the company currently has $6 million in cash and cash equivalents, but this is bolstered by a credit facility of $610 million, ensuring ample liquidity for the next few years. This allows the company to not only be able to meet its debt obligations, but also be well-positioned to capitalize on any market inefficiencies and seize opportunities to expand its hotel portfolio.

Dividend

During the pandemic, Apple Hospitality REIT, like many other REITs, made the difficult decision to reduce its dividend. In 2020, the company's dividend payout dropped from $1.20/share in 2019 to $0.30/share. The following year, in 2021, the dividend payout decreased further to just $0.04/share. However, starting from 2022, the company began gradually increasing its dividend. It started with a monthly distribution of $0.05/share in January 2022 and ended the year with a monthly distribution of $0.08/share. Additionally, the company also paid a special year-end distribution $0.08/share, resulting in a total dividend of $0.76/share.

Since the start of the year, the company has maintained a consistent monthly dividend of $0.08/share, or $0.96/share annualized. Based on the latest share price of $14.61, this gives a forward dividend yield of 6.62%. Prior to the pandemic, the company had been consistently paying a monthly dividend of $0.10/share, or $1.20/share annualized. Based on the company's strong performance in the first quarter of the year, and using the pre-pandemic dividend as a benchmark, it would be reasonable to anticipate a potential increase to its dividend later this year if the company continues to perform well.

Share Price and Valuation

The company first went public at around $18 in 2015. However, in the years leading up to the pandemic, its share price gradually declined and was trading at around $16. When the pandemic hit, the price of the shares dropped significantly, reaching a low of just over $5. Since then, however, the company's share price has rebounded significantly to its current price of $14.51. It is worth noting that the current share price is close to its lows since the beginning of 2022 when the company was recovering from the pandemic, suggesting the potential for further growth in the future.

The company is currently trading at a price-to-adjusted funds from operations (P/AFFO) ratio of about 10.2x. In comparison, the sector median is 13.85x, indicating that the shares appear to be slightly undervalued. Additionally, the company repurchased 250,000 shares at a weighted average price of $14.22/share in the first quarter. While not a significant amount by any means, this does demonstrate the company's belief that the current share price is undervalued.

Conclusion

Since my last article on the company in February 2023, the company's share price has experienced a decline of close to 17%, from $17.46 to the current level of $14.51. This has increased the company's forward dividend yield to 6.62%, while the company's fundamentals have remained the same. The company's portfolio of hotels is geographically well-diversified, and its strong balance sheet allows the company to be able to perform in various economic cycles.

One of the concerns I had previously was that the company was too conservative with its dividends - it had maintained its monthly dividends at $0.10/share instead of increasing it even though it was clearly able to do so. While this concern remains, I believe now is a good time to enter into the company as the current valuation provides me with a margin of safety.

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