Hotels Targeted by U.S. Activists Seeking Higher ReturnsNadja Brandt
Hotel owners and operators are catching the attention of U.S. shareholder activists as surging property values spur investors to press for higher returns at companies seen as laggards.
Strategic Hotels & Resorts Inc., owner of Manhattan’s JW Marriott Essex House, is under pressure from Orange Capital LLC to consider a sale. Morgans Hotel Group Co., an operator of boutique properties, is being targeted by both billionaire Ron Burkle and an activist firm after a shareholder ouster of its board. Chatham Lodging Trust last month rejected a takeover bid from a top investor that is considering more moves.
Hotel owners are the best performers this year among U.S. real estate investment trusts as property prices approach peak levels in major markets. Blackstone Group LP’s Hilton Worldwide Holdings Inc. last week raised $2.35 billion in a record initial public offering for the industry. For companies that are underperforming or hold high-quality assets, investors are pushing for deals in a private market hungry for transactions.
“Shareholders feel now is a good time to transact, to look for opportunities,” said Nikhil Bhalla, an analyst at FBR & Co. in Arlington, Virginia. “Everything can change quickly if there’s a slowdown in the industry. So they are saying now is the time.”
Shareholder activism as a whole has become more popular, with companies from Apple Inc. to Microsoft Corp. and Procter & Gamble Co. feeling the heat. Assets managed by activist funds have jumped to about $89 billion as of the third quarter from $32 billion in 2008, according to data compiled by Hedge Fund Research Inc.
The level of activity for hotel companies is unusual, said Patrick Scholes, an analyst at SunTrust Robinson Humphrey Inc. in New York. Before this year, the most recent major incident of contentious shareholder action in the industry involved Great Wolf Resorts Inc. fending off a proxy fight with shareholder Hovde Capital Advisors LLC in 2008, according to Institutional Shareholder Services Inc.
“It’s the first time we’ve seen this type of activism in the lodging sector in at least a decade,” Scholes said. “The hotel sector has done very well, but some companies have grossly underperformed.”
The Bloomberg REIT Hotels Index has gained 20 percent this year, while the broader U.S. REIT index is little changed. Lodging property prices were up 40 percent as of the last quarter from the 2009 low, according to Real Capital Analytics Inc. Values are at records in cities including Boston, Atlanta, San Francisco and Houston, the data show.
Hotel REITs, such as Strategic and Chatham, are particularly subject to pressure to sell assets because they are trading an estimated 20 percent to 30 percent below their net asset values, compared with a 10 percent to 15 percent discount during the real estate peak in 2006 and 2007, Bhalla said.
Shares of hotel REITs are further reduced in value when companies need to raise cash in the public markets for renovations or to buy properties, he said.
“Take Strategic,” Bhalla said. “As a public company, you won’t get valued correctly because you are just judged on your cash flow, for example. But that cash flow is from a trophy asset that could fetch a ton of money if it was sold.”
Orange Capital last month said it planned to nominate four members to the board of Chicago-based Strategic Hotels, whose holdings include luxury properties run by the Four Seasons and Ritz-Carlton chains. The investment fund, which owns about 3.7 percent of the REIT, wants the company to sell assets and clarify its strategy after the departure of founder and Chief Executive Officer Laurence Geller last year.
“We believe the company trades at a very large discount and that management governance has been at very low standards,” Daniel Lewis, managing director at New York-based Orange Capital, said in an interview. “We know this company will trade with a big price tag in a private sale.”
Lewis said Strategic Hotels shares should trade at $11 to $14 based on its holdings. They closed yesterday at $9.29.
Strategic Hotels shares had climbed 24 percent in the 12 months before Orange Capital began pushing for a sale in February. That outperformed the Bloomberg REIT Hotels Index, which rose about 9 percent during that time. The stock is up 45 percent this year.
Orange Capital this week had another attack, criticizing Strategic Hotels for selling the Four Seasons Punta Mita resort in Mexico to Bill Gates’s Cascade Investment LLC, which has a
6.4 percent stake in the company. The $200 million deal was done without a formal sales process that could have yielded a higher price, Orange Capital said.
Strategic Hotels said in response that the transaction represented “excellent value” for shareholders. The company is seeking to de-leverage its balance sheet and is would consider selling hotels at the right price, according to a Nov. 12 conference call. Jonathan Keehner, a Strategic Hotels spokesman with Joele Frank, Wilkinson Brimmer Katcher in New York, declined to comment.
Targeting boards adds to decades-old routine activist demands for mergers, breakups or dividends to boost equity prices. It can pay off. In the case of New York-based Morgans, operator of Miami’s Delano and Los Angeles’s Mondrian hotels, shares had fallen 5.5 percent in the six months prior to OTK Associates LLC’s push to remove the board. The Bloomberg Americas Lodging Index climbed 12 percent during that time.
Since OTK began agitating in March, the stock has soared 44 percent through yesterday, compared with a 35 percent advance in the index.
OTK, which holds a 13 percent stake in Morgans, in June succeeded in replacing the board after criticizing a recapitalization deal the company had made with Burkle, who holds preferred stock, notes and warrants. Burkle has since demanded that the board put the company on the market, while Kerrisdale Capital Management LLC said it plans to nominate directors to replace OTK’s board members.
Stakeholders have been frustrated with the lack of transparency at the current board and consider a sale as the best option, said Sahm Adrangi, Kerrisdale’s chief investment officer. The New York-based firm has a 4 percent Morgans stake.
“The value is not embedded in real estate but in the value of the brands and its platform, and for that reason a strategic buyer who can build out that platform would be a great solution,” he said. Morgans is different than lodging REITs in that it focuses on managing properties rather than owning them.
Nathaniel Garnick, a Morgans spokesman with Sard Verbinnen & Co., declined to comment.
So far this year, the most popular activist strategy in the U.S. was seeking board representation, followed by the removal of a CEO or director, according to data from Activist Insight, which tracks the industry.
Ryman Hospitality Properties Inc., the Nashville, Tennessee-based owner of Gaylord hotels and country music’s Grand Ole Opry, may be a candidate for such action, according to SunTrust’s Scholes. The REIT’s stock is up 9.6 percent in the past year through yesterday, trailing peers after a change in management of its hotels to Marriott International Inc., Scholes said.
The underperformance could result in “a change of management or dropping Marriott from managing the hotels,” Scholes said. If 2014 is “a bad year for them while it was a good year for everyone else, either of the above changes would not surprise me.”
Brian Abrahamson, a Ryman spokesman, didn’t respond to an e-mail seeking comment.
Chatham Lodging, based in Palm Beach, Florida, is trading around $20, the same price as its initial public offering three years ago. It has gained 8.5 percent since the Oct. 7 announcement by New York-based investment firm BlueMountain Capital Management LLC that it was seeking to engage in talks with the board.
Blue Mountain, a New York-based firm with a 4.8 percent Chatham stake, last month offered to buy the REIT for $21.50 a share. V3 Capital Management LP, Chatham’s largest shareholder, with an 8.2 percent stake, also is pushing for a sale.
“The public markets have not been willing to pay fair value for your assets and, quite frankly, we don’t think BlueMountain’s current bid reflects fair value either,” Charles Fitzgerald, limited partner at V3 Capital, said during Chatham’s third-quarter earnings call on Nov. 5.
Chatham said BlueMountain’s bid was inadequate and that its current business strategy would deliver substantially greater value. The company’s shares have climbed 34 percent in the 12 months through yesterday, compared with a 24 percent gain in the REIT hotel index.
BlueMountain is considering options in response to the rejection.
Doug Hesney, a spokesman for BlueMountain with Dukas Public Relations, declined to comment, as did Keehner, who represents Chatham.
Since REITs are viewed as a stable industry with consistent dividend payments, they aren’t necessarily the most “efficient” at building value for shareholders, Orange Capital’s Lewis said. Under U.S. tax laws, REITs are required to pay out at least 90 percent of their income to shareholders.
“The motivation to transact is pretty small,” he said. “Hedge funds seek opportunities to maximize value. REIT investors themselves are often very reluctant to do that.”