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Will This Time-Share Exchange Business Reap Profits or Losses?
Posted by: Patricio Kehoe (IP Logged)
Date: February 3, 2014 04:51PM

It’s difficult for any company to last several decades in the leisure industry, especially after an economic crisis or a recession arises. However, a few market giants with a diversified brand portfolio and strong international presence have managed to ride the tidal wave successfully and are now looking towards a brighter future. Interval Leisure Group Inc. (IILG) is one of these market giants. A pioneer and innovator in the vacation ownership market since 1976, the Miami-based firm operates the second-largest time-share exchange business in the world, Interval International. Today, this company’s exchange network comprises over 2,800 resorts in 75 countries, and its quality products are offered to approximately 2 million members. So, let’s see why investment gurus Joel Greenblatt (Trades, Portfolio), John Keeley (Trades, Portfolio) and Ron Baron (Trades, Portfolio) are all so keen on buying this company’s shares.

New Acquisitions

As a provider of vacation services and operating businesses, Interval Group has sustained its market position through a large time-share network of developers and operators, which include Four Seasons, Hyatt Hotels Corporation (H), Sheraton Hotels and Resorts, Marriott International Inc. (MAR), Westin and Starwood Hotels & Resorts Worldwide Inc. (HOT).

In addition to these firms, the company also operates a smaller division, which provides management and rental services to resorts and condominiums. Although the firm has focused its energy on expanding this division, by acquiring Ashton Hotels & Resorts, Trading Places, and Vacation Resorts International, among other smaller enterprises for $160 million, the cash-on-cash return resulting from this investment barely reached 9% in 2012.

The business strategy of pursuing acquisitions to accelerate top-line growth may not be generating shareholder returns in the form of dividends, but this might change looking forward. In January 2014, for example, Interval International extended its affiliation agreements with two high-quality Four Seasons Residence Clubs: the Four Seasons Residence Club Aviara in Carlsbad, California, and Four Seasons Residence Club Scottsdale at Troon North. The Aqua Hospitality operating business is also expanding, with five new hotels (three in Hawaii) as part of its current portfolio of 29 hotels. This move should allow for a raise in fiscal 2013’s 5.2% revenue growth and also contribute to the growing operating margin of 23.20%.

Slow Growth, but Little Competition

The time-share exchange industry is a duopoly, with 99% of the developers affiliated either with Interval Group or its rival and strongest competitor Wyndham Worldwide Corporation (WYN). While Interval may only own 32% of the market share (the remaining 68% is in WYN’s hands), the network effect inherent to this market creates an important barrier to entry for new competitors. Consequently, Interval will benefit from this difficulty, as well as from the recession-resistant characteristic of the industry. The 2009 crisis, for example, showed a revenue decline of merely 0.3%, due to time-share owners’ willingness to use their memberships even in times of economic hardship. Also, the firm’s pricing power in this duopoly market should allow an increase in transaction and membership fees, resulting in 3.4% higher revenue per member.

Despite the company’s exposure to foreign economic, political and currency risks, given its international operations, I still feel bullish about Interval Group’s long-term future profits. Although Wyndham Worldwide is a strong competitor and holds a larger market share, I still think that this firm may be a good business for patient investors. The current 26.4% returns on capital may not be the best this industry has to offer, but with the stock currently trading at a 13% price discount, and the company’s initiative to reach for opportunities could transfer into a long-term profit.    

Disclosure: Patricio Kehoe holds no position in any stocks mentioned.

Guru Discussed: Joel Greenblatt: Current Portfolio, Stock Picks
John Keeley: Current Portfolio, Stock Picks
Stocks Discussed: IILG, H, MAR, HOT, WYN,
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