DiamondRock Hospitality Company (NYSE:DRH) Q1 2024 Earnings Call Transcript May 3, 2024

DiamondRock Hospitality Company isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day, and thank you for standing by. Welcome to the DiamondRock Hospitality Company's First Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Briony Quinn, Executive Vice President and Chief Financial Officer. Please go ahead.

Briony Quinn : Thank you, Michelle. Good morning, everyone. Welcome to DiamondRock's first quarter 2024 earnings call and webcast. Joining me today are Jeff Donnelly, our Chief Executive Officer; and Justin Leonard, our President and Chief Operating Officer. Before we begin, let me remind everyone that many of our comments today are not historical facts and are considered to be forward-looking statements under federal securities laws. As described in our filings with the SEC, these statements are subject to numerous risks and uncertainties that could cause future results to differ materially from what we discuss today. In addition on today's call, we will discuss certain non-GAAP financial information. A reconciliation of this information to the most directly comparable GAAP financial measure can be found in our earnings press release. With that, I'm pleased to turn the call over to Jeff.

Jeff Donnelly: Good morning, and thank you for joining us. Before we discuss our first quarter results, I'd like to briefly highlight the leadership and organizational changes we announced last month. As you saw from today's earnings release, DiamondRock's strong performance is continuing into 2024. Our new leadership appointments and organizational structure position us to build on the momentum we are seeing. We have outstanding talent across the organization and we are now able to tap into that talent in a deeper way. I am honored to lead DiamondRock as CEO and excited by the opportunity to leverage my experience in this new role. Justin's promotion to President underscores both his contributions to DiamondRock and his deep industry expertise.

For those of you who haven't had the chance to meet Justin, he is perhaps the sharpest and most talented hotel investment professional I've met and I'm proud he's on our team. In addition to continuing his responsibilities as Chief Operating Officer, Justin will be assuming responsibilities for transactions as well. As the Company's Treasurer and Chief Accounting Officer, Briony has been a trusted partner to me, a leader in the organization and she has excelled in each of her finance and accounting positions over her 17-year career at DiamondRock. To me, Briony is the ideal choice for the company's next Chief Financial Officer. With the opportunity to leverage all this experience in new ways and establish a more simplified organizational structure than we had with our previous six member executive team, we can expedite decision-making in a more opportunistic and dynamic investment world and accelerate performance and value creation.

In short, DiamondRock was great before this transition and with it, we will be even better. Our goal is to drive superior long-term total shareholder return. To do this, we will maintain our investment focus primarily on lifestyle resort and urban hotels, no different than we have in the past. We will continue to mine our network of independent owners to unearth unique destination resorts, but we are equally in favor of uncovering attractive urban market opportunities with growth potential. We will be more deliberate in harvesting capital from slower growth, capital-intensive assets, and recycling proceeds into higher return investments such as share repurchases, internal ROI projects, or new investments. Value creation is our magnetic north.

It is important to me that I personally recognize Mark and Troy as we make this shift. Their individual contributions established DiamondRock as an industry leader and Mark was instrumental in assembling the independent board and team we have today. All of us at DiamondRock wish them both the absolute best in their future endeavors. Before I turn to our first quarter results, I want to recognize the teams at three of our hotels recognized by the Michelin Guide: Cavallo Point, who earned a Michelin 2 key rating, The Gwen, who earned a Michelin 1 key rating and the Shorebreak Huntington Beach. These are rare honors. Just 80 hotels received 1 key status and only 33 achieved 2 key status. DiamondRock was among the few winners of multiple keys. Okay, let's get into Q1.

Overall, the leisure segment proved a little softer than expected due to inflation, the pressure of higher interest rates, and an uncertain economic picture. Group demand remains strong with first-quarter group sales production steady versus last year. RevPAR declined 0.4% in the quarter compared to the prior year. This was slightly weaker than our original expectation from a little softness of top-line at the resorts. Despite the small RevPAR decline, total revenues increased 3.8% on strong food and beverage performance from the increased group activity. Total expenses increased a little over 6%, driven in large part by group banquet volumes that were up 24% over Q1 last year. While those revenues drove a significant increase to both food and beverage margin and overall portfolio profit, the growth in food and beverage revenue does drive higher headline expense growth and overall margin erosion given that food and beverage is a less profitable part of our business than rooms.

That segmentation shift to group was most evident at three of our largest hotels in the quarter, Chicago Marriott, Westin Boston, and Westin Fort Lauderdale where expenses grew over 15% due to an increased segmentation shift to group with great food and beverage spend. If we exclude these three hotels, our overall expense growth increased just 3.4%. Overall expense growth is highly dependent on revenue mix with increases in food and beverage driving higher overall expense growth. Given our significant increase in group pace year-over-year, we expect the corresponding group spend in food and beverage will keep our expense run rate at around 5% for the remainder of the year. Turning to resorts. First quarter is a critical season for our resorts.

The resort segment contributed approximately 45% of first quarter total revenue, but 60% of hotel adjusted EBITDA. As we said in the last call, the first quarter would be the toughest quarter for our resorts. RevPAR in the resort segment declined 4% from the prior year, which was a little weaker than our original expectation due to a 7.6% RevPAR decline at our highest-rated luxury resorts versus nearly flat for our lifestyle resorts. Favorably, our outside-of-the-room outlet spend performed very well, driving a total revenue increase at the resorts of 0.4%. Despite a shift to lower-margin F&B revenues, we were still able to manage expense growth down to 4.1% in the quarter. The Florida Keys were a highlight with collective RevPAR up 6.6% in the quarter consistent with the growth for this Trio in Q4 '23.

The Lodge at Sonoma experienced a 28% RevPAR decline, pushing EBITDA $1 million below last year. Excluding this one hotel, our resort segment RevPAR would have been 110 basis points better. As we discussed in the last earnings call, the wine country market was very weak this quarter, but we underperformed in Sonoma because we faced a particularly difficult Q1 '23 comparison. We had less throughput on the books for the quarter and our revenue management strategy was simply too aggressive for the setup. The market is stabilizing, the team has course-corrected it and we have seen our recent results return to in-line market performance. The Hythe in Vail was also behind our expectation due to lower visitation owing to what is best described as lumpier snowfall patterns, more ski destinations available than in the prior season as well as a drop off in loyalty redemption nights.

RevPAR was down 9% and hotel-adjusted EBITDA was $1 million behind first quarter 2023. Encouragingly, our group pace on the books for the rest of 2024 at this hotel is up over 30% compared to last year. A note on redemptions, loyalty redemptions at our resorts were down 23% from prior year and 40% from 2022. The sharp reduction in redemptions means there's a larger number of room nights to fill and sometimes that means turning to OTAs or other less profitable channels. Looking ahead, we believe our resorts are positioned to deliver better results in the second half of 2024. The difficult comparisons in South Florida and the Keys have been lapped and we expect the remaining resort markets will follow suit by the end of the year. We recognize high interest rates and inflation are placing pressure on consumer spending, but these same pressures should drive incremental preference for domestic travel over international travel and drive to destinations over fly to destinations.

Based on the latest airless data, there was a 12% year-to-date increase in total international arrivals into our markets versus 2023 and the loyalty redemptions data could foreshadow fewer outbounds for international destinations. Turning to our urban portfolio, first quarter RevPAR increased 2%, group room nights increased 10.7%, and the strong accompanying out-of-room spend pushed total revenue growth up 6.8%. Business transient revenue increased 9.4%, but BT is still 23% behind 2019. Expenses were higher than expected owing mainly to the staffing increases that accompany the increases in banquet revenues. Overall, EBITDA at our urban hotels was up 3.1%. The Dagny in Boston continued to outperform pro forma. Last year's renovation has placed the Dagny as the top three hotel in the entire Boston market on TripAdvisor compared to number 56 in the market prior to renovation.

This has been a well-executed transformation by the team at DiamondRock and the hotel, and we are elated to see the follow-through in performance. The Westin Seaport, also in Boston, delivered 17% RevPAR growth in the quarter, increasing total revenues $3 million over the prior year. Our 1,200-room Chicago Marriott had an excellent quarter with RevPAR, up 7.4%, and total RevPAR up 24.8%. Group room nights were up 50% over last year with the banquet contribution per group room up 10%. The net result was a better than 100% increase in EBITDA and 313 basis point improvement in margin. Downtown Washington, D.C. turned a corner and we are seeing market improvement, albeit from a depressed level. At our Westin, RevPAR increased just shy of 3% in the quarter, but total revenue increased over 11% on the improvement in group activity.

Accordingly, EBITDA was almost $0.5 million better than last year. We are most positive on the group outlook for 2024. We believe our strong volume of business on the books is a competitive advantage. At the end of the quarter, we had 85% of our budgeted full-year group revenue on the books, representing a 14% increase over the same point in 2023. Looking at the quarterly breakdown, our group revenue was up 10% in Q1 and pace is up approximately 5% in Q2 and over 15% in the third and fourth quarters. Looking at just our big box hotels, our group pace for 2024 is up 16% or about 200 basis points better than our total portfolio. The most notable performers are our Renaissance Worthington up 32%, the Hythe up over 25%, Chicago Marriott up 22%, the Westin Fort Lauderdale up 19%, and Washington D.C. up 15%.

Looking ahead to next year, at the end of Q1, our big box room night pace for 2025 is flat with 2024 with time to go. Let me turn the floor over to Briony to talk about financial highlights and our revised guidance. Briony?

Briony Quinn: Thanks, Jeff. As Jeff mentioned previously, top-line results were slightly below our original expectation, but we were nonetheless able to achieve our original expectation of $0.17 of FFO per share. Although first-quarter RevPAR declined slightly, total revenues increased 3.8% on an 11% increase on food and beverage income driven by the strong group contribution in the quarter, which exceeded our expectations. Approximately 65% of the incremental F&B revenues above our expectation flowed to gross operating profit. Gross operating profit was up nearly 1% compared to 2023, which was slightly behind our expectation. Food and beverage profits and support cost savings all but offset the decline in rooms department profit.

Comparable hotel adjusted EBITDA was $61.4 million or approximately $2 million below the prior year on a 169 basis point decline in margin. Corporate G&A costs were $8.9 million, which were approximately $700,000 higher than we originally expected due to the announcement in the first quarter of our general counsel's intention to retire on June 30. This required us to accelerate the compensation expense of his outstanding equity awards during the quarter. Unlike severance costs, we do not add back retirement expenses to our G&A. Turning to our 2024 guidance. Let me start with the changes to our G&A outlook. Earlier in the year, we provided guidance of $33 million to $34 million for full-year corporate expenses. We expect the net savings from the leadership realignment will reduce our 2024 G&A by nearly $4 million.

The result is a reduced corporate expense outlook of $29.5 million to $30.5 million for 2024. We are raising our 2024 adjusted EBITDA guidance range to $270 million to $290 million with a midpoint that is $5 million higher than the prior guidance range in large part due to the G&A cost savings, but also our confidence in our group pace. Our adjusted FFO per share guidance is increased by $0.01 per share at the midpoint. A higher for longer interest rate outlook has shifted the prospect of rate cuts to much later in the year increasing our interest expense outlook to $65 million to $66 million from prior guidance of $61 million to $63 million. Additionally, we are comfortable with the current Q2 consensus estimates for adjusted EBITDA and adjusted FFO per share.

Turning to capital allocation. There were no acquisitions or dispositions during the quarter and we did not repurchase any shares. We continue to explore dispositions, the proceeds of which can fund share repurchases, internal ROI projects, or external growth. Maximizing shareholder value is the singular focus of our capital allocation strategy. We remain committed to having a flexible balance sheet. Our leverage is conservative as demonstrated by the low net debt to EBITDA ratio of 3.9 times trailing four quarter results. Our liquidity is strong with $120 million of corporate cash, $108 million of hotel-level cash, and an undrawn $400 million revolver. We have a $73 million CMBS loan on our Courtyard Midtown East maturing in early August. It is our current expectation that we will repay this mortgage with cash on hand at maturity.

If the capital markets cooperate, we may look to a larger corporate financing transaction in the near future to address our remaining mortgage maturities through 2025. With that, let me turn the floor back to Jeff.

Jeff Donnelly: Thanks, Briony. I want to conclude with a few points before Justin, Briony and I answer your questions. First, I mentioned at the onset that our investment strategy remains unchanged, but I believe our execution will be more analytical and our actions more deliberate. To borrow a term from my partner, Justin, that means we will work to manufacture core product, ideally with limited capital intensity. To us, competitive auctions for a brand-managed big-box hotel is not the path to success and the investment community has limited patience for big-ticket, highly disruptive renovations. Instead, we want to select situations where our capital and creativity can unlock value that will drive long-term outperformance.

Similarly, we will be thoughtful about how and when we elect to dispose of assets. Proceeds will be recycled to the uses we believe create the most value at the time, whether that is a new investment, share repurchases, or internal ROI project. Concerning the transaction market, activity was down 35% in the first quarter, which is off of a 53% decline last year. It is still early, but we are starting to hear of a little more product trickling into what I'll call the shadow pipeline. To the extent interest rates remain higher for longer, it's likely we see more distressed owners bring product to the market, or transactions may emerge where the path to ownership may require a little extra creativity. We continue to have success with our ROI projects.

The Dagny Boston, which was converted in the third quarter of last year, continues to outperform our expectations as it ramps to its full potential. The Hilton Burlington will convert this summer to the Hotel Champlain, a lifestyle curio hotel with a specialty restaurant led by a James Beard-nominated chef. In the Florida Keys, we are making progress on building a small marina with a high ROI at Tranquility Bay and we expect to complete a new bar at Havana Cabana in Key West this summer that we anticipate will generate over $1 million a year in revenue at a 25% margin on a $1.5 million cost. We are moving ahead on expanding the room count at The Landing Resort in Lake Tahoe by 20%, which is expected to be completed in 2025. Finally, we are also moving ahead with integrating the Orchards Inn into our luxury L'Auberge de Sedona Hotel through an upgraded room product and a new shared cliffside pool and bar.

We believe once completed, this will be a strong financial performer for us. In conclusion, DiamondRock is well-positioned to continue our top-tier performance in the sector. We believe our group bookings and market footprint position us well to outperform in 2024. Our substantial group revenue on the books provides a significant level of embedded growth, and we are optimistic our resort properties will see momentum return over the remainder of the year. ROI projects will add incremental growth in the next 12 to 24 months as projects such as the Dagny are completed in ramp. In conclusion, we really like our setup and we are singularly focused on accelerating and enhancing our earnings growth. At this time, we would like to open it up to any of your questions.

Operator: Thank you [Operator Instructions] And our first question is going to come from the line of Dori Kesten with Wells Fargo. Your line is open. Please go ahead.

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