Requests that Board of Directors Explore Strategic Alternatives, Including a Sale of the Company, to Unlock Shareholder Value
GREENWICH, CT (Oct. 23, 2015) — FrontFour Capital Group LLC and ADW Capital Partners L.P., significant shareholders of Diamond Resorts International, Inc. (NYSE: DRII), announced Oct. 21 that they had delivered a letter to the President and CEO of Diamond Resorts International to express their frustrations with the Company’s underperformance, despite commendable execution by the management team, and to request that the Board of Directors explore available strategic alternatives, including a sale of the Company, in order to unlock shareholder value.
The full text of the letter follows.
October 21, 2015
Mr. David F. Palmer
President and CEO
Diamond Resorts International, Inc.
10600 West Charleston Boulevard
Las Vegas, NV 89135
cc: The Board of Directors, Diamond Resorts International, Inc.
FrontFour Capital Group LLC (“FrontFour”) and ADW Capital Partners L.P. (“ADW”) have been significant and long-term shareholders of Diamond Resorts International, Inc. (NYSE: DRII) (“Diamond” or the “Company”) since shortly after the Company’s July 2013 IPO. Each firm decided to invest in Diamond after conducting significant due diligence based on the following criteria:
(i) Diamond’s highly attractive recurring management fees within the Hospitality and Management
(ii) Diamond’s robust free cash flow generation throughout the economic cycle and its lack of
(iii) the significant roll-up opportunity available to Diamond given the fragmented nature of the
timeshare industry and the opportunity for a “public/private arbitrage”; and
(iv) the significant equity ownership stakes held by the insiders and their prior track record of
navigating and growing the Company through the credit crisis.
As you are aware, Diamond’s shares currently trade at a material discount to both the comparable publicly traded timeshare companies as well as our near-term view of fair value of approximately $50 – $55 per share, which is roughly 11 – 12x our forecasted 2016E FCF of $4.72 per share inclusive of the recent Gold Key acquisition. We could argue that an even larger multiple should be awarded given Diamond’s unique platform and ability to grow through acquisition(s) without channel/hotel banner conflicts that afflict its peers. Simply put, despite commendable execution by the management team, the Company’s shares trade at their lowest valuation since being public. We are aware of other Diamond shareholders who share similar frustrations and as a result we request that the Board explore strategic alternatives in order to maximize shareholder value.
Since the Company’s IPO, the management team has successfully:
(i) integrated the highly accretive acquisitions of Island One and Pacific Monarch Resorts;
(ii) eliminated the external management structure with Hospitality Management and Consulting Service;
(iii) successfully redeemed the Company’s 12.00% Senior Secured Notes and entered into a new credit facility yielding significant interest expense savings and balance sheet flexibility;
(iv) reduced Corporate Debt / EBITDA from 2.8x to 0.6x as of June 30, 2015;
(v) grown LTM EBITDA from $145mm to $336mm through June 30, 2015;
(vi) announced and recently closed the acquisition of Gold Key Resorts at a highly accretive 4x Enterprise Value / EBITDA multiple exclusive of revenue synergies;
(vii) entered into an agreement to develop a 144-room resort in Kona, Hawaii with Och-Ziff Real Estate on an asset-light basis;
(viii) used downtime from recent hurricane to expand its most highly demanded luxury resort in the system – Cabo Azul; and
(ix) announced a $100 million stock repurchase plan in October 2014 and an additional $100 million repurchase plan in July 2015.
Despite these stellar accomplishments, Diamond’s shares continue to trade at a material discount to its peer group, which includes Marriott Vacations and Wyndham Worldwide, as well as sell-side analyst price targets of over $40 per share – predicated on numbers we believe to be “light” and do not add in the value of the recent Gold Key deal. We estimate Diamond trades at a 2016 estimated FCF yield, including the acquisition of Gold Key Resorts, of 21% compared to the average of the peer group of approximately 7.5%. Given the present interest rate environment, the Company’s attractive growth prospects and over-capitalized balance sheet, we reiterate our belief that Diamond’s shares are materially undervalued.
Over the past few months, sentiment has begun to shift within the broader lodging space due to global growth concerns, RevPAR growth deceleration and fears of potential negative impact to the industry by Airbnb. Diamond specifically has seen a significant increase in its short interest to approximately 30% of the outstanding float as short-sellers have continued to question the Company’s inventory recapture and asset-light model. In addition, short-sellers have raised concerns surrounding the lending practices of the time share industry. Our significant diligence leads us to believe that these concerns are unfounded. These broader industry concerns and attacks from shorts have led to a significant public vs. private market opportunity.
Given the robust demand for exposure to the attractive timeshare industry among institutional investors (e.g., securitization, asset-light development, equity ownership) and Diamond’s current over-capitalized balance sheet, we believe the Board has a broad array of strategic options to unlock value for shareholders. We have spoken with numerous industry participants and are confident there are a number of private timeshare operators, including those owned by private equity firms, who would also be highly interested in a potential combination with Diamond. Furthermore, the prior successful history of Diamond Resorts being formed as a leveraged transaction with Sunterra Resorts as the original platform Company in 2007, we view a leveraged buyout as the most attractive option as it would also allow Diamond insiders to rollover part/all of their stakes into the transaction. We would also encourage the Board to consider a rollover option that would also allow current shareholders to participate in the take-private transaction. The Company could continue to execute on bolt-on acquisitions via access to the debt capital markets as it successfully did during the 2008 – 2013 period when it was private.
For all of the aforementioned reasons, and based on our discussions with numerous Diamond investors, we believe shareholders would be highly supportive of a sale of Diamond at an appropriate valuation. For purposes of this analysis, we assume the Company would be purchased in a leveraged buyout scenario at a price of $40 per share (or approximately 8.0x EV/EBITDA multiple on our 2015 projections pro forma for the Gold Key transaction). Over a 5-year investment horizon and assuming no multiple expansion, dividend recapitalization or incremental bolt-on acquisitions, this would result in an internal rate of return (“IRR”) for equity holders of approximately 30%.
Our key assumptions are listed below:
- 15% organic EBITDA growth in 2016, 12% in 2017 and 7% growth thereafter;
- exit multiple of 8.0x; assumes no multiple expansion;
- 5.0x leverage with weighted average cost of debt of 8.00%; free cash flow generation used towards debt repayment;
- 3% of revenues towards capex; and
- annual inventory repurchases of $50 million
In summary, we believe that a significant opportunity exists to unlock value for all shareholders. We look forward to further discussions with you and your fellow board members.
FrontFour Capital Group LLC – ADW Capital Partners L.P.
About FrontFour Capital:
FrontFour Capital is an investment adviser with offices in Greenwich, CT and Toronto, ON. FrontFour focuses on value-oriented investments in North American companies.
About ADW Capital:
ADW Capital Partners L.P. is a value-driven investment fund founded in January 2011 that utilizes a concentrated, long-term, and tax-sensitive strategy focused on capital preservation.
FrontFour Capital Group LLC
35 Mason Street, 4th Floor
Greenwich, CT 06830
PRESS RELEASE SOURCE: FrontFour Capital Group LLC