NEWTON, Massachusetts—InterContinental Hotels Group and Hospitality Properties Trust reported that the two parties have consolidated, revised and extended four existing management agreements for 130 hotels into one new 25-year management contract.
Hospitality Properties Trust is a hospitality-focused real-estate investment trust that owns 289 hotel properties with approximately 43,000 rooms in the U.S.
As part of the deal, up to 42 hotels (6,751 rooms) will be rebranded or sold by HPT, leaving 88 hotels (13,131 rooms) under IHG’s brands in the revised single management contract. The 42 hotels will be removed from IHG’s system in 2011, in addition to one hotel which has already been sold by HPT.
The IHG guarantee on the previous contracts was eliminated and will not be renewed. Instead, IHG will fund a new security deposit of US$37 million to cover any future shortfalls to HPT’s owner priority returns. This was paid to HPT on 25 July 2011. The balance of the security deposit will be repaid to IHG at the end of the contract.
David Loeb, senior analyst with R.W. Baird, said the “favorable terms” show HPT holding a majority of the upside.
“The downside is limited as IHG delivered US$37 million to supplement the existing security deposit,” he said in a research note. “At the end of 2Q 2011, the deposit had a balance of US$64.6 million. The announcement should be viewed positively as uncertainty associated with HPT's ongoing lease negotiations is removed.”
Of the 42 hotels identified for potential sale or rebranding, the weaker properties in the portfolio are disposition candidates while some of the average to above-average properties are rebranding candidates, according to IHG. Once rebranded, these hotels also could be sold.
Loeb said priority returns to HPT will be reduced by 8% of the net sales proceeds received. Disposing of the weaker hotels should lead to better coverage and higher returns, he said.
In addition, HPT is planning about US$300 million in renovations to the remaining hotels with proceeds from asset sales. Loeb said priority returns will increase by 8% of the capital deployed and the resulting higher-quality properties should lead to better coverage and higher returns.
He said R.W. Baird has issued an “outperform” rating on HPT’s stock, increasing the price target from US$26 to US$27.
“Our estimates are increasing given that the IHG hotels' 2Q 2011 performance was ahead of our estimates and the increased security deposit provides additional credit support,” he noted. “We believe the stock is even more attractive given its reduced risk profile. The 7.1% dividend is well covered, in our view.”
In June, HPT repackaged three lease agreements with Marriott International as well, resulting in a higher-quality portfolio with greater earnings potential, according to Loeb.
The new lease terms with Marriott retained HPT’s US$98.1 million of annual priority returns. HPT committed to funding US$102 million of renovations, resulting in a 9% increase in priority returns of the amounts funded, according to the contract. The REIT also planned to shed 21 hotels and reinvest the gain into funding renovations, projecting an 8.1% dividend.