Peel Hotels (PHO.L): Value in this mid-market hotel operator?

Wednesday morning saw the announcement of annual results from Peel Hotels (PHO.L), and the headline numbers are impressive for a hotel operator without any presence in London and which is wedged in that uncomfortable space between the luxury and budget brands. It has all the makings of a serious recovery play – just look at the percentages!

EBITDA increased 24.9% to £2,473,196 (2014: £1,980,380)
Operating Profit up 56.5% to £1,454,481 (2014: £929,627)
Profit before tax increased 180.6% to £959,403 (2014: £341,863)
Net debt decreased £821,990

It also announces that it expects to pay a dividend of 1.5p to shareholders, worth around £200,000: a strong sign of confidence for a company which hasn’t paid a dividend since 2009.

So is there value here?

The cash flow statements over the past three years show that pre-working capital movements, and pre-provisions, annual cash flow from operations has been on a solid upward trajectory from £1.7m, to £2.0m, to £2.5m in these 2015 results.

Capital expenditure has been around £0.5m-£0.6m while the portfolio of nine hotels has been unchanged, and so it appears that we should chalk this figure up as maintenance capex. Giving the company some credit for the strong recent performance and putting a heavier weighting on 2014/2015 results, we can conservatively estimate future free cash flow to the firm at about £1.7m (if 2015 was repeated or improved, the actual figure will be £1.9m+).

What must not be overlooked is that Peel Hotels has a debt burden of £10.9m, which remains significant compared to revenues of £16.5m. Up until April 2014, like many other unlucky UK businesses, this burden was compounded by a fixed interest rate swap on the vast bulk of the debt which generated an additional £350,000 of annual interest charges. The lapse of this swap during the most recent financial year has helped produce a reduction in the interest charge to £0.7m from £1.0m.

Reassuringly, the founder, executive Chairman, and largest shareholder, Robert Peel, sees paying off the debt as a key priority, and is not even slightly interested in borrowing to purchase more hotels or to expand internationally. At the helm for seventeen years so far, there is no reason to believe that he does not have the interests of minority shareholders at heart – for example, in 2014, while the company was in recovery mode, he declined to take any salary. This is important, since he and his brother together own the majority of the shares! His preferred exit strategy is the eventual sale to a growth-oriented entrepreneur, who could use the hotel portfolio and the stock market listing as their basis for expansion.

Applying a multiple of 12 to our FCFF estimate of £1.7m suggests enterprise value of £20.4m, and if we subtract net debt that leaves a conservative equity valuation of £9.5m or 68p/share.

This suggests that the current share price of 96p may overvalue the company. However, if a trade sale were to take place from someone with a serious long-term plan, value could be realised much closer to the balance sheet equity value of £22.4m or £1.60p/share. This one is definitely worth keeping an eye on for further operational improvement, debt reduction, and transaction-related news flow.

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