HGV - Hilton Grand Vacations: Fundamentals Are Solid Stock Is A Great Bargain

2023-05-06 07:40:36 ET

Summary

• Hilton Grand Vacations, Inc. started the year with sustained revenue growth and stable margins.
• Market conditions are mixed, but growth prospects remain attractive.
• Its excellent financial positioning is one of its solid foundations.
• The stock price uptrend persists, but the upside potential remains high.

Timeshares suffered from pandemic restrictions and macroeconomic volatility. But revenge travel helped the market survive disruptions and rebound. A giant like Hilton Grand Vacations, Inc. (HGV) was no stranger to these massive changes. Yet, it remained one of the most durable figures in the industry. Inflation strained the travel budget, but HGV knew how to sustain growth while remaining viable.

Today, the company faces mixed market conditions. The potential mild recession stirs fears and uncertainties among consumers and investors. Despite this, its potential stays enticing as the travel demand influx persists. More importantly, HGV has adequate capacity to sustain its operations, withstand headwinds, and cover borrowings. It may not be a dividend-paying stock, but capital returns and share repurchases make it attractive. Even better, the bullish pattern and potential undervaluation of HGV stock price make it a good bargain.

Company Performance

It's been more than a year since I last covered Hilton Grand Vacations, Inc. And as expected, its acquisition of Diamond Resorts and revenge travel stimulated its growth. Despite this, it faced massive challenges as prices skyrocketed and the geopolitical tension in Europe intensified. But the thing is, its rebound and expansion have been sweet in the past two years. It was able to utilize its capacity to its full potential and maintain its solid market positioning.

Its operating revenue amounted to $934 million , a 19% year-over-year increase. Indeed, the company delivered a solid start, primarily driven by the increased demand for its products and services. This massive uptrend is impressive, given the challenges brought upon by inflation. From a behavioral perspective, we can attribute it to the impact of the pandemic. Staying at home for too long, relaxation, change in scenery, and spending time with family were some examples. Although quantifying this aspect is not easy, its positive spillovers make this idea logical. We can also attribute it to labor market changes. The increased remote work flexibility allowed more employees to work from home according to their desired frequency. In a survey, 49.8% of the respondents had remote work flexibility at varying levels. This percentage was higher than in 2021 and 2022. The same survey showed that over two-thirds were able to travel more often. Aside from this aspect, HGV made sure that change must start from within. To handle the softening demand and skyrocketing prices, it set more strategic pricing. It also continued to capitalize on expansion like its acquisition of Midtown Timeshare Hotel. The combination of the moves helped increase its market presence and capture more customers. As such, it sustained its increasing membership of 519,000 members , an increase of 184,000 from 1Q 2022. The strategic pricing and higher volume also drove its impressive revenue growth.

Relative to its peers, HGV did better than another giant, Marriott Vacations Worldwide Corporation ( VAC ). The latter had a higher revenue of $1.17 billion , but its revenue growth was lower at 11%. It was also better than Bluegreen Vacations Holding Corporation ( BVH ) with 12% revenue growth. It showed that regardless of size, HGV could go head-to-head with its peers. More importantly, the growth in many timeshare companies showed a robust market.

But what makes HGV a solid company is its operational efficiency. Despite the elevated prices, costs and expenses stayed at a manageable company. It is no wonder its operating margin remained double-digit at 16% versus 15% in 1Q 2022. Relative to other quarters, 1Q 2023 margins were way lower. Yet, we can attribute it to seasonality, which we can confirm in lower revenues. Demand is relatively lower during the first quarter due to the winter. Holidays are also over, which are at their peak during the second half. Despite this, the sustained year-over-year change showed the stability of the company. It balanced its revenue growth with viability.

This year, Hilton may have to be more careful as recessionary fears persist. It may pose risks to its membership and borrowings since higher interest rates encourage savings. Investments and spending may also be affected. Yet, more opportunities are on the horizon as summer approaches. Prices are more manageable today, and we will discuss them further in the following section.

How Hilton Grand Vacations, Inc. May Stay Solid This Year

We already saw how Hilton Grand Vacations, Inc. maneuvered its operations amidst market volatility. It sustained its revenue growth and operational expansion while remaining viable. Despite these, the company must stay on the watch as interest rate hikes may become challenging. Although increments decreased from 75 bps to 25 bps last meeting, the uptrend may persist. It is part of the conservative approach of The Fed to ensure inflation stability. Given this, the cost of borrowing may become a concern since HGV is a capital-intensive company. Note that borrowings comprise nearly half of the total assets, so the company has a heavy reliance on financial leverage. It may also cause a mild recession, which may affect consumer spending and even timeshare demand.

Fortunately, hope is on the horizon as inflation improvement becomes more visible. It is now 5% , which is way lower than last month. Even better, it was only about half the 9.1% peak in 2022. The downtrend may increase the purchasing power of customers. Although cost-of-living adjustments may take some time, positive spillovers may materialize. If it continues, the mild recession may be halted or at least last shorter than expected. Moreover, gasoline prices are only $3.711 per gallon , which is 27% lower than the $5.032 peak in 2022. It can make driving and airfare less expensive, which can entice more hotel reservations, vacation property rentals, and timeshare memberships. Also, lower inflation can help HGV stabilize costs and expenses to maintain its operating margin. Nevertheless, Hilton must remain careful since there is still a disconnect between the tourism market and consumers. The company must improve customer experience since travel remains relatively expensive.

The thing is, many individuals consider travel one of their top priorities amidst inflation. Instead of cutting their budget, they plan to deal with inflation through other strategies. According to 44% of the respondents, they will either travel off-season or change their itineraries. It is consistent with the fact that 49% of Americans plan to travel more this year. It shows that many Americans will still go on vacation amidst inflation. It may be more possible as inflation and gasoline prices decrease.

Travel and tourism may peak in 3Q as 85% of Americans plan to travel more this summer. To be more specific, nearly two-thirds of travelers plan to go domestic. The optimistic outlook in the second half is logical since travel remains a priority this summer. According to 44% of Americans, they will travel more than once this summer. It may be more advantageous to timeshare companies with a massive domestic market presence. In 3Q 2022, timeshares already had an 82% occupancy rate. This year, it may be higher as prices become more manageable due to relaxing inflation.

But what makes HGV a solid company is its impeccable financial positioning. It has adequate liquidity levels to sustain its expansion while withstanding headwinds. As a capital-intensive company, it is typical to see lower cash levels after its most recent acquisition. Meanwhile, borrowings decreased, which can be helpful amidst interest rate hikes. Its Net Debt/EBITDA Ratio of 3.49x shows that the company earns enough to cover borrowings. It is an impressive aspect for capital-intensive companies, which have an average ratio of 3.5x-4.2x. We can confirm its adequacy in its Cash Flow Statement. Its cash flow from operations dropped by over 90%. Despite this, we can see that the decrease was mainly due to changes in working capital. We can attribute it to continued expansion, given the increase in operating assets. Also, we can see its massive repayment of operating liabilities. More importantly, it is higher than CapEx, proving it can cover its operating capacity. The company maintained the balance between growth and viability with sustainability.

Stock Price Assessment

The stock price of Hilton Grand Vacations, Inc. remains in an uptrend. There have been notable price corrections, but the increase was more prominent. At $41.53, the stock price is 4% lower than last year's value. As such, the stock price is cheaper and more attractive. The P/E Ratio of 14.08x shows that the stock price is still reasonable relative to the EPS. Using the estimated EPS of NASDAQ of $4.13 , the target price will be $58.15. The PB Ratio adheres to it, given the current BVPS and PB Ratio of 18.95 and 2.19x. If we use the average PB Ratio of 3.16x, the target price will be $59.78.

My only concern is that HGV does not pay dividends. Despite this, it continues to cover capital returns through share repurchases. In fact, it repurchased a total of 3.2 million shares for $145 million as of April 21, 2023. It still has $83 million, which it can use to purchase about 1.8 million shares. To assess the stock price better, we will use the DCF Model.

FCFF $292,720,000

Cash $752,000,000

Outstanding Borrowings $672,000,000

Perpetual Growth Rate 4.4%

WACC 9.2%

Common Shares Outstanding 112,515,000

Stock Price $41.53

Derived Value $59.84

The derived value adheres to the supposition of potential undervaluation. There may be a 44% upside in the next 12-18 months. Investors may consider it a good bargain at its current stock price.

Bottomline

Hilton Grand Vacations, Inc. remains a solid company amidst mixed market conditions. It sustains its impressive growth while stabilizing margins. It also has adequate capacity to cover its expansion, borrowings, and capital returns. Even better, the stock price remains undervalued with high upside potential. The recommendation is that Hilton Grand Vacations, Inc. is a buy.

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