Hilton Grand Vacations Inc. quarterly report, Q2 FY2017

Hilton Grand Vacations Inc. — Q2 2017 Form 10-Q

Reporting period: Quarter and six months ended June 30, 2017; comparisons are with the corresponding 2016 periods. HGV became a separate public company on January 3, 2017. It develops, sells and finances timeshare interests and manages resorts and vacation clubs. At quarter-end it reported 48 properties with 8,101 units and approximately 278,000 Club members. Dollar amounts below are in millions unless otherwise stated.

Financial performance and position

Metric	Q2 2017	Q2 2016	Six months 2017	Six months 2016
Total revenue	$439	$391	$838	$761
Operating expenses	$348	$304	$664	$588
Income before taxes	$84	$80	$160	$160
Net income	$51	$47	$101	$95
Diluted EPS	$0.51	$0.48	$1.02	$0.96
Adjusted EBITDA (non-GAAP)	$106	$103	$200	$199

Revenue rose 12.3% in Q2 and 10.1% for the six months. VOI sales revenue was $143 in Q2, up 25.4%, and $261 for the six months, up 14.0%.
Contract sales, a non-GAAP operating measure, were $323 in Q2, up 11.0%, and $610 for the six months, up 10.3%. Tour flow increased 9.5% in Q2; volume per guest rose 1.6% to $3,503.
Six-month segment Adjusted EBITDA increased 8.8% to $285: real estate sales and financing contributed $182, while resort operations and club management contributed $103. Consolidated Adjusted EBITDA increased only 0.5% to $200, with higher corporate G&A and license fees absorbing much of the segment growth.
Real estate margin was $80, or 32.8% of sales revenue, in Q2 versus $62, or 29.0%, a year earlier. For six months, margin was $141, or 30.7%, versus $123, or 29.3%.
Financing revenue increased, but financing margin percentage declined to 69.4% in Q2 from 76.5%, primarily reflecting higher financing expense. Rental and ancillary services margin fell to $16 in Q2 from $19.
Six-month operating cash flow was $177 versus $86; investing cash outflow was $21 versus $17 and financing cash outflow was $54 versus $73. Cash, cash equivalents and restricted cash totaled $253 at June 30, including $62 restricted; unrestricted cash was $191.
At June 30, cash and cash equivalents were $191, total assets $2,287, and equity $283. Debt was $486 and non-recourse debt $645, or $1,131 combined carrying value. The company reported compliance with applicable financial covenants.
Timeshare financing receivables were $1,034 net of a $130 allowance. The allowance rose from $120 at year-end; six-month loan-loss provision was $27. Loans 121 or more days past due totaled $42 gross, versus $33 at year-end.

Material changes and drivers

Higher VOI sales reflected sales at recently developed projects, including Washington, D.C. and New York, and higher marketing and fee revenue. Management attributed higher contract sales mainly to increased tour flow and average transaction prices.
Resort and club management revenue benefited from new properties and approximately 19,000 additional Club members. Rental and ancillary results were weaker, including the absence of a $2 insurance-claim payment received in 2016 and higher costs associated with new properties and members.
General and administrative expense rose to $29 in Q2 from $21 and to $52 for six months from $37. The filing attributes the increase largely to regulatory filings, professional fees and other costs of operating as an independent public company.
In March, HGV issued approximately $350 of securitized notes backed by timeshare receivables and used proceeds to repay part of its timeshare facility. During the six months, it issued $350 of non-recourse debt and repaid $395 of non-recourse debt; non-recourse debt declined to $645 from $694 at year-end.
HNA acquired approximately 25% of HGV from Blackstone in March. Blackstone sold additional shares in June and held approximately 5% at quarter-end; HGV received no proceeds from that secondary sale.

Outlook, commentary, risks and unusual items

No specific earnings or revenue guidance is provided. Management said cash from operations, existing cash and securitizations should be adequate for anticipated operating needs and capital expenditures for the foreseeable future.
Management described a long-term target of a 50/50 mix of owned and fee-for-service inventory. About 88% of the company’s available future inventory supply was under capital-efficient arrangements; six-month inventory spending was $46 versus $72 a year earlier, and the reported capital efficiency ratio was 1.5 versus 0.9.
Unusual estimate change: HGV revised its estimate of redemptions of expired discounted vacation packages, reducing advanced-deposit liabilities by $11 and increasing six-month revenue by $10 (with $1 recorded as related sales-tax liability). The change increased six-month net income by $10 and EPS by $0.10.
HGV had approximately $212 of commitments to purchase vacation ownership inventory and land over five years, including $187 expected in 2019. Timing and amounts may change under the arrangements, and some purchases may be cancellable in certain circumstances.
HGV reported ordinary-course litigation, including claims for substantial sums, but said it did not expect pending or threatened matters to materially affect results, financial position or cash flows. Some matters are reasonably possible and/or cannot be estimated.
On July 18, 2017, after quarter-end, HGV invested $40 for a 25% non-managing interest in the Elara Las Vegas resort joint venture. The partner generally manages the venture and may call for additional capital contributions; the filing identifies risks from limited control, partner actions and possible obligations beyond the investment.
Interest-rate exposure includes variable-rate term and timeshare-facility debt tied to LIBOR; sustained rate increases could adversely affect results and cash flows. HGV also reported foreign-currency exposure, primarily Japanese-yen receivables, though a 10% yen move would change gross receivables by less than $1.
The company was still evaluating adoption of the new revenue-recognition standard, including potential presentation changes for certain incentives and unresolved impacts on some sales and marketing revenue streams. Interim results are not necessarily indicative of full-year performance.

Most important facts for investors to verify

How much of reported growth and six-month EPS depended on the $10 expired-package estimate benefit, and whether similar benefits recur.
Underlying sales momentum and profitability: contract sales, tour flow, VPG, real estate margin, and the gap between segment and consolidated Adjusted EBITDA growth.
Loan portfolio credit performance, including the rising allowance, delinquency trends, defaults and the amount of receivables pledged to securitizations.
Liquidity and debt-service capacity, including the maturity schedule, variable-rate exposure, securitization funding conditions and the $212 inventory commitments.
Costs of standalone operations and Hilton-related brand or other agreements, as well as the eventual accounting and presentation effects of the revenue standard.
Terms, funding obligations and governance rights of the Elara joint venture, and any developments in litigation or other contingencies.