Description

Overview:

Wyndham Destinations is the world’s largest timeshare (vacation ownership, or VO) operator in the world with ~$2B in annual VOI sales and $4B in annual revenue. WYND is the last of its branded timeshare peers to become a pure-play timeshare company, following the spinoff of Wyndham Hotels and the sale of its European vacation rental business in May. WYND shares have declined modestly since the spinoff and are down ~20% from 2018 highs, creating an compelling valuation on both a relative and an absolute basis, at just ~8x FCF and <8x 2018E EV/EBITDA.

Typical Timeshare Spin Discounts Have Closed

The timeshare industry has often been maligned in the press and by investors for a number of reasons including high consumer loan interest and default rates, reports of high pressure sales tactics, opaque/complex accounting methods, lack of interest in or understanding of timeshares among the typical institutional investor class, the industry’s macroeconomic sensitivity, broader regulatory/litigation concerns, etc.--just to name a few. However, I believe these concerns have generally been overblown and the above-GDP growth and high FCF generative nature of the branded timeshare companies have produced outsized results for long-term investors. The following table helps illustrate the historical opportunity for contrarian, LT investors (including ILG since it announced scaled entry into VO sales w/the acquisition of Vistana from Starwood):

I believe WYND presents a similar opportunity. The Company current trades at the bottom of its peer group on both a FCF basis and EV/EBITDA (with HGV also looking compelling on this basis, but with somewhat different cash flow dynamics; see Ruby’s recent write-up for a good overview there).

“Self-Help” Story

WYND has grown VOI sales somewhat slower than its peers in recent years, which I would attribute to a combination of size, undermanagement, and weaker sister hotel brands (Wyndham is economy/midscale focused) and hotel royalty program leading to lower affinity sales. The spin, as well as the ongoing progress at Wyndham Hotel brands in improving its loyalty rewards program and growing its portfolio in the upper-midscale space (aided by the LQ acquisition) should help WYND improve its relative VOI sales performance. The Company is guiding to 4-7% annual VOI sales growth over the coming 3 years, with 2018 running within this range, and I believe the current valuation is underwriting much lower (negative?) growth.

Macro Risk: Full-Cycle FCF Underestimated

Macro risk is worth addressing, as I believe it is meaningful and the largest unknown/uncontrollable factor. WYND has a $3 billion VOI loan portfolio and VOI are highly discretionary items. US VOI sales plunged ~40% during the financial crisis, and have not quite topped pre-recession levels 10 years later, suggesting that extreme caution is warranted. However, the last cycle’s record can be a misleading guide. Pre/Post-recession sales followed a similar pattern as the broader housing bubble (Wyndham’s VOI sales increased 43% between 2005 and 2007). A large portion of the decline during the recession also reflects an industry shakeout (leaving branded players in a stronger position) as well as an intentional pullback from lower-margin (new members) and riskier-credit sales by large branded developers like Wyndham.Importantly, up to ~70% of VOI CGS are variable, which allows the Company to manage a decline better than the market may expect. WYND’s results recovered post-recession far better than implied by VOI sales. FCF (pre-separation) rebounded to ~$500MM/year in 2009-10, WYND’s gross VOI sales are now up by ~10% from the prior peak, VPG is up by ~50% from prerecession levels and VO segment EBITDA has increased by an impressive 80% versus 2007 levels. WYND’s consumer finance portfolio is also in a far better position to handle a deteriorating consumer credit environment than it was 10 years ago.

Outlook/Valuation:

In estimating WYND’s intrinsic value, I project that the Company will only grow revenue and Adj. EBITDA at the low end of its 4-7% target between 2018 and 2021. This represents minimal growth acceleration versus historical trends despite the clear opportunities to drive tour flow and VOI sales by leveraging the hotel affinity relationship and recruiting more new buyers. I also conservatively assume FCF growth is limited by incremental inventory spend to support new owner growth, which should improve the Company’s longer term FCF profile. Lower VOI growth combined with higher inventory spend is a punitive scenario. Still, assuming minimal EV/EBITDA valuation expansion, at 8x Adj. EBITDA, WYND’s intrinsic value could reach $80 per share over a 2-3 year timeframe. Macroeconomic factors remain the greatest risk, but in our view the current share price essentially implies a declining business.

Catalyst

The catalyst for future share outperformance could look much like the past for WYND: outsized FCF per share growth, driven by share repurchases. From the initial separation from Cendant in 2006 to the June 2018 split, Wyndham repurchased a massive $5.7 billion of its own stock: 120 million shares or ~60% of initial shares outstanding, at an average price of ~$48/share or ~55% below its final prespin price. This led to an enormous 218% growth in FCF per share between 2010 and 2017, compared to 78% growth in underlying FCF. With shares yielding 12% at current levels, repurchases should be highly accretive. WYND could feasibly repurchase 20-30% of shares over the next 3 years while delevering from 3x to 2-2.5x.