XHR - Xenia Hotels: Trading At Just 7.5-9 Times AFFO

2023-06-05 11:30:00 ET

Summary

• Xenia Hotels & Resorts is active in the upper upscale segment of the market, with 80% of its assets leased to Marriott and Hyatt branded hotels.
• The AFFO in Q1 and the full-year AFFO guidance are very interesting, as the stock is trading at a single-digit AFFO multiple.
• The senior notes are interesting as well, with the yield to maturities of in excess of 7% although the AFFO performance is strong and the balance sheet pretty robust.

Introduction

As I’m not a huge fan of hotel REITs, I have mainly be focusing on the preferred shares issued by hotel REITs. In previous articles, I explained why I was quite keen on the preferred shares of for instance Summit Hotel Properties ( INN ) and Sunstone Hotel Investors ( SHO ). Xenia Hotels and Resorts ( XHR ) does not have any preferred shares outstanding, but the common units appeared to be pretty attractive from a ‘first look perspective’ so I wanted to dig a bit deeper into the REIT’s Q1 results to check up on the FFO, AFFO and debt situation.

The FFO and AFFO performance are pretty decent

Xenia Hotels is a relatively small hotel REIT with just 32 properties. About 80% of the assets are leased to what I would consider Tier-1 franchises with Marriott and Hyatt. Most of the hotels are in the upper upscale segment of the market .

While the net income result is pretty irrelevant for a REIT, it makes sense to have a closer look at the income statement anyway, as it usually is the starting point used for the FFO calculation. We see the hotel REIT generated about $269M in revenue in the first quarter of this year and after deducting the $179M in operating expenses, the gross margin was pretty decent. Interestingly, the $30M increase in room revenue resulted in an increase of the room operating expenses by just $7M.

The depreciation and amortization expenses are still weighing on the result, and the operating income in Q1 came in at $33.8M. That’s almost twice as much as the $17.7M generated in the first quarter of last year. It still is a good result and although the interest expenses increased as well, the pre-tax loss of $3.9M in Q1 2022 was converted into a pre-tax income of $11.8M and ultimately a $6.55M net income and $6.3M net income attributable to the common shareholders of Xenia.

A good result, but as mentioned before, a net income result does not really matter too much. The focus is (and should be) on FFO and AFFO results. The image below shows how the FFO and AFFO is calculated: the FFO is basically calculated by adding back the depreciation and amortization expenses to the net income. The FFO reported by Xenia in Q1 was approximately $40.2M (+60% YoY) while the AFFO came in at $45.2M which is an increase of in excess of 50% compared to the first quarter of last year.

Considering Xenia Hotels and Resorts currently has approximately 109.5M shares outstanding, the FFO and AFFO per share came in at $0.37 and $0.41 respectively. Interestingly, the full-year AFFO guidance now calls for a result of $1.39-1.60 per diluted share (see below). Not only is that a guidance with a pretty wide margin between the lower end and higher end, it is also based on the diluted share count. If I would apply the current share count of 109.5M shares, the AFFO range would be approximately $1.42-$1.64 per share. This means the AFFO could likely come in a bit lower than in the first quarter, which could be explained by the relatively high adjustments for share-based compensation in the first quarter of this year. The Q1 and Q2 results will account for about 60% of the full-year EBITDAre, while the second semester will only account for 40% of the full-year result .

The balance sheet looks okay as well

Another important element obviously is balance sheet strength. The FFO and AFFO may be great but if the balance sheet looks pretty weak, the REIT may still be in a tough shape.

That doesn’t appear to be the case for Xenia. The REIT has a total gross debt level of $1.43B, but this is offset by $283M in cash and $58M in restricted cash. Even if I’d ignore the restricted cash position, the $283M in cash results in a net debt level of approximately $1.15B. Compared to a book value of $2.58B for the real estate assets, the LTV ratio is approximately 44.6%. Considering the book value of the hotel properties already contains almost $1B in accumulated depreciation, that LTV ratio is pretty good.

Compared to the acquisition cost of the assets, the LTV is just 32% (and that still excludes the restricted cash, which would reduce the LTV ratio below 30%). These are strong metrics. About $220M of the debt consists of mortgage loans, all other debt consists of either corporate credit facilities and two bonds of $500M each , with maturity dates in 2025 and 2029.

Despite the strong results and the decent LTV ratio, the bonds are trading below par. The 6.375% note maturing in August 2025 currently has a bid of approximately 98 cents on the dollar for a yield-to-maturity of well in excess of 7% while the 4.875% senior note maturing in June 2029 has a bid of 86 cents on the dollar for a YTM of close to 7.5%. Considering Xenia’s strong Q1 performance and very reasonable LTV ratio, I’d argue the senior notes are quite interesting. And if you buy the 2025 note, there is a case to be made of ‘seniority by maturity’ as the $500M 2025 note matures before any mortgage loan or corporate credit facility.

Investment thesis

The first quarter was pretty strong for Xenia, but the full-year guidance indicates it will be difficult to replicate this. And that’s fine. Using the current share count rather than the fully diluted share count, the stock is currently trading at just 9 times the AFFO on the lower end of the guidance and less than 8 times the AFFO at the upper end of the guidance. That makes Xenia pretty cheap from an AFFO multiple. Meanwhile, the balance sheet looks quite robust as well, so unless the economy completely collapses, I’m not expecting Xenia to run into any balance sheet issues.

I currently have no position in Xenia Hotels & Resorts, but I like what I see. The common shares are cheap but as the current yield is just over 3% (based on the current quarterly dividend of $0.10 per share , the dividend was reinstated in September last year ), income-focused investors may want to have a look at the senior notes issued by Xenia.

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