We are maintaining our HOLD rating on Host Hotels & Resorts Inc. (NYSE: HST) based on valuation and the company’s difficult recovery from the coronavirus pandemic. In 2018 and 2019, Host was hurt by negative currency effects, RevPAR growth was muted, hotel supply increased, and business travel slowed. As such, we had assumed further declines in revenue and AFFO even prior to the pandemic. Host has also suspended its dividend, and before the suspension, had not raised its dividend in five years.
The company has a solid balance sheet, and has improved its portfolio by selling underperforming noncore properties and reinvesting in more attractive locations. However, we see limited upside for HST in the near term. We would consider raising our rating when conditions in the battered travel and leisure sector begin to improve.
HST shares have underperformed the S&P 500 over the past quarter, with a flat return compared to an 8% gain for index. The shares have also underperformed over the last year, declining 33% compared to a gain of 17% for the S&P. We believe that the stock is trading near fair value and do not expect significant appreciation over the next year. The beta on HST shares is 1.23, in line with hotel REIT peers.
HST recently reported third-quarter results that exceeded consensus expectations. The company reported a 3Q20 adjusted FFO loss of $80 million or $0.11 per share, down from positive AFFO of $257 million or $0.35 per share in 3Q19 due to the impact of the pandemic on travel and leisure spending. The consensus AFFO estimate had called for a wider loss of $0.22 per share. Comparable RevPAR (revenue per available room) dropped 84% on a constant-dollar basis to $29.36 amid sharply lower occupancy.
The comparable-hotel EBITDA margin was negative 46.0% in 3Q20, down from positive 25.6% a year earlier. Host achieved a comparable-hotel EBITDA margin of 29.0% in 2019 and 29.1% in 2018.
In December, surging COVID cases and new lockdowns and other restrictions hurt hotel occupancy. According to data from Smith Travel Research, U.S. hotels recorded a 26.4% sequential (week-to-week) decline for the week ended December 19. The weakness marks a reversal for hotel occupancy, which had been recovering from its April lows.
EARNINGS & GROWTH ANALYSIS
HST’s third-quarter revenue fell 84% year-over-year to $198 million. Total operating costs and expenses declined 54% to $516 million. Expenses that management considers variable declined 85%, while fixed costs declined 46%. The operating loss came to $318 million, compared to an operating profit of $137 million in the prior-year period. Comparable RevPAR dropped 84% on a constant-dollar basis to $29.36. By region, Boston RevPAR was down 97.0%, Seattle was down 95.5%, and Maui/Oahu was down 94.5%, as hotels in these markets were largely closed in 3Q. Markets that relatively outperformed included Jacksonville (down 27.6%), the Florida Gulf Coast (down 34.9%), and Phoenix (down 61.2%).
Host had planned to spend $550-$650 million on capital projects before management withdrew its guidance. Capital spending was $558 million in 2018 and $474 million in 2019.
The company is focused on investing in locations that appeal to multiple customer segments, allow for premium rates, and have relatively limited new supply. It also intends to reallocate capital away from markets in which it expects slower growth or higher capital requirements.
Management withdrew its guidance for 2020 as hotel bookings plummeted due to COVID-19. Following a better-than-expected 3Q20, we are narrowing our 2020 AFFO loss estimate to $0.34 per share from $0.36. At the same time, we are lowering our 2021 AFFO estimate to $0.20 per share from $0.35. Our long-term growth rate forecast is 1%.
FINANCIAL STRENGTH & DIVIDEND
Our financial strength rating on HST is Medium-Low, the second-lowest rank on our five-point scale. On March 25, Moody’s lowered the company’s outlook to negative from stable, but retained its Baa2 credit rating. On March 20, S&P also lowered its outlook to negative from stable, but retained its BBB rating. Fitch also lowered its rating to BBB- from BBB, but maintained its stable outlook.
The debt/total capital ratio was 47%, below the peer average of 51%. Third-quarter EBITDA was negative and did not cover interest expense.
The company has suspended dividends and share repurchases for the remainder of 2020. As it has done in recent years, the company also paid a special $0.05 per share dividend in January. Our dividend estimates are $0.20 for 2020 and zero for 2021.
MANAGEMENT & RISKS
James Risoleo has been CEO of Host Hotels since January 2017. He was previously the managing director of Host’s West Coast investments and joined the company in 1996. The chairman of Host Hotels is Richard Marriott.
On risks, the hotel industry is cyclical and is affected by the balance of supply and demand for hotel rooms. The overall health of the U.S. economy affects this demand, and a prolonged downturn could have a significant effect on hotel profitability. The hotel industry has also been severely damaged by the coronavirus pandemic.
In December 2020, Airbnb had its initial public offering. Airbnb was founded over ten years ago and is not a new entrant in the lodging industry. However, we expect Airbnb to continue to unlock additional leisure housing supply, pressuring traditional hotel operators like Host.
Marriott International hotels comprise over half of the company’s portfolio, so any problems with this brand could have a serious impact on overall results. Host Hotels also faces risks from volatile energy and insurance costs.
HST also has operations in Europe, which has faced relatively slow economic growth. HST’s Houston and New York properties have also been struggling.
Host Hotels & Resorts Inc. is the largest hotel REIT by market cap and revenue. Host owns 75 luxury hotel properties with about 45,000 rooms. The company is also part of an international joint venture that owns ten hotels in Europe, and has hotel investments in the Asia/Pacific region and India. Host’s portfolio consists mostly of upscale properties. Its brands include Marriott, Ritz-Carlton, Hyatt, Fairmont, Sheraton, Hilton, Westin, W, St. Regis, The Luxury Collection, and Swissotel. HST shares are a component of the S&P 500.
We think that HST shares are fully valued at recent prices near $15, above the midpoint of the 52-week range of $8-$19. Our valuation model incorporates peer and historical analysis. Forward AFFO is too small for the price/AFFO multiple to be meaningful. However, the shares are trading at a price/book ratio of 1.6, versus an average of 0.8 for lodging REITs. We see limited upside in the near term and are maintaining our HOLD rating.
On December 31, HOLD-rated HST traded at $14.63, up $0.03.