Hersha Hospitality Trust: Big changes have made it an interesting prospect (NYSE: HT)

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Companies are constantly striving to reinvent themselves in one way or another. Sometimes this can take the form of launching a new product or acquiring marginal assets. Other times, it may involve major financial transactions aimed at immediately create shareholder value. A REIT that experiences this last example is Hersha Foster Trust (NYSE: HT). At present, the business is dramatically different than it was at the end of its 2021 fiscal year. This follows management’s decision to divest certain non-core assets with the ultimate goal of concentrating all efforts on creating value with remaining assets and with the aim of repaying debt. Given the limited data available regarding this maneuver, the company’s shares now look fundamentally attractive if we assume that financial performance will eventually return to where it was in 2019 before the pandemic hit. For this reason, I decided to raise my rating on the company from a “hold” to a “buy”.

Big changes are taking place

The last time I wrote about Hersha Hospitality Trust was in July 2021. At that time, the hospitality industry was just recovering from the worst of the COVID-19 pandemic. Like many other hotel and resort players, Hersha Hospitality Trust has been hit hard by falling occupancy rates. The company was also experiencing signs of recovery, but I still recognized that the company was risky at this time. Ultimately, this led me to rate the company as a “reserve”. But since then, the market has humiliated me. Even though the S&P 500 fell 6.8%, shares of Hersha Hospitality Trust returned 19.1%.

Historical financial data

Author – SEC EDGAR Data

To be clear, part of this increase is due to the company’s continued improvement in results. To give an example, just look at the last quarter for which data is available. This is the company’s first quarter of fiscal 2022. Revenue reached $81.9 million. That’s almost double the $47.2 million generated in the same time a year earlier. This increase in sales is largely explained by an increase in the company’s occupancy rate from 45.9% to 58%. Cash flow from operations went from a negative $13.8 million to a positive $15 million. FFO, or funds from operations, went from negative $23.3 million to negative $3.3 million, while EBITDA went from $1.8 million to $20.1 million. This follows fiscal year 2021, which was already a solid period for the company compared to the previous year. As Hersha Hospitality Trust’s property occupancy rate rose from 36.5% in 2020 to 56.3% last year, revenues rebounded and profits improved. Areas where the company suffered losses also saw a reduction in those losses last year.

As someone who analyzes companies, the excitement over this pales in comparison to what the company announced at the end of April this year. According to management, the company has agreed to sell 7 of its non-core Urban Select Service properties outside of New York City for $505 million. Management said the move would allow the company to reduce its net debt by $460 million to $480 million. To put that into perspective, net debt at the end of last quarter was $1.03 billion. It also appears that the assets sold were of lower quality than most of the company’s other properties. The 26 hotels that will remain with the company generated, in 2019, a RevPAR of $219. With the assets the company is still selling included, that number was just $206. Another important distinction concerns EBITDA. By key, using 2019 results, the remaining properties are expected to generate EBITDA of approximately $33,000. This compares to $32,000 for all properties, including those sold, combined. Management expects this transaction to close during the third quarter of this year.

Financial projections

Author – SEC EDGAR Data

Generally speaking, such a large divestiture would make it difficult to value a business in the future. At the very least, it makes historical financial results meaningless. However, the EBITDA management by key figure provided makes it much easier for us to understand what the business will look like without these assets. Based on my calculations, EBITDA for the remaining 26 properties, assuming financial performance eventually returns to 2019 levels, should be $137.4 million. After taking into account the debt reduction caused by the transaction, annual interest expense is expected to be approximately $16.7 million. I also made another adjustment that would imply operating cash flow for the company of $96.5 million per year. This adjustment consists of deducting preferred distributions from the Company’s operating cash flows. While preferred distributions aren’t usually factored in, I like to pull them out to see what kind of cash flow might go to common shareholders.

Trading multiples

Author – SEC EDGAR Data

Taking this data, I calculated that the business should trade at a price to operating cash flow multiple of 5.3. The company’s EV/EBITDA multiple is a bit higher at 10.5. As part of my analysis, however, I also decided to compare the company to five similar companies. Based on price to operating cash flow, these companies ranged from a low of 1.6 to a high of 10. This is all based on current price to fundamentals that each company reported for its 2019 fiscal year. In this case, two of the five companies were cheaper than Hersha Hospitality Trust. Using the EV to EBITDA approach, the range is 10.4 to 14.7. In this scenario, only one of the five companies was cheaper than our target.

Company Price / Operating Cash EV / EBITDA
Hersha Foster Trust 5.3 10.5
Braemar Hotels & Resorts (BHR) 4.4 11.1
Chatham Lodging Trust (CLDT) 10.0 14.7
Ashford Hospitality Trust (AHT) 1.6 10.7
Trusting Service Properties (SVC) 6.5 11.0
Summit Hotel Properties (DCI) 8.6 10.4

Carry

Exciting times can lead to uncertainty. But thanks to management, we have some understanding of what Hersha Hospitality Trust’s fundamental condition should look like moving forward in a world where financial performance returns to where it was in 2019. Shares of the company are also pretty cheap right now, and I could see investors pushing the stock higher unless we see a significant economic downturn or a massive resurgence in COVID-19 cases. Absent these events, however, I believe the company is an attractive buying prospect to consider.

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