Notes on Marriott International: Deja vu all over again?
Those of you who have read Joel Greenblatt’s book “You can be a stock market genius” will remember his case study on Host Marriott/Marriott International. (.. and those who haven’t, should!). Well, Marriott’s doing it again. Last February they announced that they would be spinning off their timeshare business, Marriott Vacations Worldwide, from Marriott International by the end of 2011. The first Form 10 for the spinoff was filed in June, and now we are on edition 3 (Sept. 30, 2011), so the spinoff looks likely to be finalized before year-end.
In the Form 10 Marriott Vacations (VAC) is described as a “.. worldwide developer, marketer, seller and manager of vacation ownership resorts and vacation club, destination club and exchange programs, principally under the “Marriott” and “Ritz-Carlton” brands and trademarks, which we license from Marriott International and Ritz-Carlton. When our spin-off from Marriott International is complete, we expect to be the world’s largest company whose business is focused almost entirely on vacation ownership, based on number of owners, number of resorts and revenues.
We generate most of our revenues from four primary sources: selling vacation ownership products; managing our resorts; financing consumer purchases of vacation ownership products; and renting vacation ownership inventory. As of December 31, 2010, we had 64 vacation ownership resorts (under 71 separate resort management contracts) in the United States and eight other countries and territories and approximately 400,000 owners of our vacation ownership and residential products. “
In some ways the proposed VAC spinoff is very similar to the Marriott International (MAR) spinoff from the Marriott Corporation in 1993. At that time Marriott was both a management company and an owner-operator of hotels. The hotel management part of the business was viewed as the more desirable because of its high returns and low capital requirements; hotel ownership was viewed as kind of a ball-and-chain especially because in the early 90’s Marriott found itself with too many unprofitable hotel rooms which it had built using long-term financing, leaving the company highly leveraged and vulnerable at a time of economic uncertainty. So management decided to spin-off the desirable hotel management part of the business into Marriott International (the ‘good’ business) and leave the hotel ownership and other low margin businesses (the ‘bad’ business) in the main company, to be renamed Host Marriott.
One might view the today’s situation at Marriott International similarly. The timeshare business is the ‘bad’ business; low margin, low return on capital and shrinking since at least 2006 with significant writeoffs over the past several years. And given the current economic uncertainties, its future looks not so bright. So one can see management’s train of thought; poor performance at the timeshare business negatively impacts Marriott International’s overall financial performance, putting downward pressure on the company’s stock price (and thus management’s performance compensation). Of course they want to get rid of the albatross, but who wants a timeshare business? Oh, and remember MAR still receives management fees (high ROI stuff) from the timeshare business for the use of the Marriott name. So a spinoff seems the best way to get rid of the ‘bad’ business while still keeping the management fees. After all, they’re familiar with the process, so why not do it again?
Now back to what this means for us investors. Does this mean we’ll get the same kind of returns out of VAC that Joel Greenblatt did out of Host Marriott? Not necessarily! There are some important differences. Principal among these is the management situation. In the early 90’s Stephen Bollenbach was brought on board at Marriott to find a solution to their financial problems. His answer, the spinoff of MAR. But he stayed as CEO of Host Marriott! Let’s look at the VAC spinoff. The NEOs (don’t you just love that acronym?) are all die-hard Marriott Vacation executives. They’ve been there for the past 15 years through thick and (mostly) thin. So we’re not getting any new management. Then of course there is the question of just compensation, or incentives. In 1993 almost 20% of Host’s stock was reserved for management, i.e. management incentives were well-aligned with shareholder interests. Here? Got to research this a bit more, but it doesn’t look anywhere near as good for VAC management. So I’m a bit worried on this front.
Let’s look at some other aspects of the spinoff. Will institutions dump the shares at spinoff and create an opportunity for us little guys? They might if 1) the market value of the shares spun off is insignificant relative the value of the parent shares, and/or 2) the spun-off company does not fit within their investing parameters (market cap too small, company too leveraged, wrong industry, too complex, et al.). First, what I glean from the Form 10 is that the spinoff ratio will probably be about 1:10, that is, 1 share of VAC for every 10 shares of MAR owned on the record date. Where might the shares trade? Using a very over-the-top analysis, extrapolating from the results of the first 6 months of this year and using an earnings multiple range from 5x-15x (pretty wide, I know, but you have to begin somewhere) one comes up with a price range for VAC shares of between $3.30 and $9.90. My first thought is, share price below $10 is a definite negative for institutions. They don’t like ‘penny stocks’! The second is, at the share price range outlined above, holders of MAR will get somewhere between $.33 and $.99 for each share of $29 MAR they hold, so yes the market value of the spinoff is (relatively) insignificant when compared to the overall investment in MAR. My third thought is that with a market cap of between $100 and $350 million VAC is too small to be held by most institutional investors who own $10 billion market cap MAR. These are all encouraging factors from my perspective but I have to ask myself why management is pressing all the right buttons for me! There must be an angle and I have to look into it a bit more (and so should you) when the Form 10 is finalized.
One final note that makes my last statement even more important. Management will be writing down VAC assets by between $275 and $325 million (that’s $7.60 to $9.00 per new VAC share!) in the third quarter. That makes Marriott Vacations look particularly unattractive as a business. The per share operating loss for 2011 could be greater than the share price! So what gives? Why are they doing this? Its like dressing an orphan baby in its most sordid rages to show to prospective parents! Is there something I’m missing or is it just that Marriott management is taking their best shot given the current circumstances (and their desire to get rid of this abominable business)? You need to figure this one out for yourselves. I’ll let you know what I decide anon.
Remember, all investments are good at some price. You just have to decide what that price is.
Happy investing to all.