Choice Hotels International Earnings Call Insights: SkyTouch Technology and Cash Flow Outlook

Choice Hotels International  (NYSE:CHH) recently reported its first quarter earnings and discussed the following topics in its earnings conference call.

SkyTouch Technology

Jeff Donnelly – Wells Fargo: Steve, I’m just curious on SkyTouch Technology who is sort of the ideal target customer for that product I am curious what do they use now and how do you think about the market size for that technology?

Stephen P. Joyce – President and CEO: We think it’s very large, because it’s a worldwide solution and there are two basic customer’s that we’ll be approaching one is sort of independent hotels that aren’t receiving a property management system required by brand and you know the numbers on that, they are very large and this can scale. We are not yet ready to put this in convention sized hotels, but it will scale up to full service hotel, 300 rooms plus. So that’s a very large audience and then secondly and the interesting thing is we have had enormous interest from a number of the brand companies. So we are also in discussions with several brand companies at this point about potentially providing them with a solution and you know the reason being lot of people, why would it they buy it from Choice. One is it’s a separate independent division and we’re going to keep it that way, but more importantly, we’ve got sort of the only massively distributed cloud-based property system out there which means no server, no cabling, no air-conditioning, no technician for the server. PCI compliance is much easier credit card security is much better, it’s a much lower cost of doing business, it’s an easier way to handle your customers and reservations along with revenue management, so it provides a solution that people had been waiting for and fortunately we developed it as a proprietary system and we believe it is going to be in strong demand from those consumers, both the independent hotels, but also we think we’re going to be signing up a number of brands.

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Jeff Donnelly – Wells Fargo: And just to be clear, this is like a piece of software that a large are brand like an Inter-Con or Marriott for example does not presently provided?

David White – CFO: Yeah, they don’t – no one else is using a cloud-based property management system on any sizable scale and that’s our solution and that’s what everybody is looking for.

Jeff Donnelly – Wells Fargo: Just one last question on SkyTouch. I mean, is this something that down the road you think you would eventually spinout or is this something you like to keep capital to Choice?

Stephen P. Joyce – President and CEO: Well, we want the value of it to go to our shareholders. So there are lots of different directions that it could go, spinout might be one of them, but we’re going to get it up and going and then we’re going to evaluate what the best way to create value for those shareholders in the long run and we’ll evaluate that sometime in the next year I would assume…

Jeff Donnelly – Wells Fargo: Just one last question on new activity I guess, does it feels we’re seeing more unit growth out there, albeit off a low base in the industry. Do you think we’re going to be seeing progressively higher new unit and conversion activity as we roll through the next few quarters?

David White – CFO: I think so because – we’re looking at a number of key indicators. That remix and licensing number is a big number for us to indicate action in the market. So, you know the way this works is as hotels trade hands, we typically get a shot at branding them, so we think that’s going to continue to improve. The new construction numbers are very encouraging, albeit they’re still low compared to historic levels, but this is the first time we’ve really seen this kind of a sharp uptick and we’ve got. We talked to our franchisees they’re ready to get going. Their lenders are starting to talk about available money from the regional and local bank levels and – you got a lot of interest in that. We’re having a lot of success with the Cambria discussions and Ascend has just been on fire. I mean we started that out with I think 22 hotels something like that at 3.5 years ago and we’re over 100. So and it is a perfect solution for all those independent hotels while all the benefits are being part of a major system, but don’t want a brand. So it is, it’s just an exciting opportunity we’re looking at some other options about how to grow it even further. But it’s just been a lot, anything over the last three or four years, that’s been one of the brightest spots for us. We’re encouraged our numbers are up, they are holding in terms of their relatively steady, there is a lot of interest, you can tell that and the optimism in the franchisees. The other brand companies are starting to build again in significant numbers when they do. They’ll start taking and pruning their brands as well, that’s another source of hotels for us. In addition to our own growth avenues that we think are going to be created by Ascend with Cambria and then remake of Sleep and Comfort has been incredibly well received by the franchisees and the consumer. They are willing to pay more for it. So we think the growth trajectory of those brands is going to increase as well long term.

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Cash Flow Outlook

Steve Kent – Goldman Sachs: Just a couple of questions. First, on the cost of SkyTouch, could you put it in the broader capital allocation strategy, so dividend in Q2. I think you shift the Q1 into Q4 share buyback, financing and guarantees. How do you think about your uses of cash flow over the next 12 to 18 months especially in relation to SkyTouch? I don’t know if you’ve disclosed yet how much money you’ll be spending on that. Then finally, I hear what you are saying on new builds and the opportunity there. Could you just discuss for your franchisees what percentage is coming from equity for new development versus financing through banks and has that started to decline, because I know for a while it was a very high amount for a new build?

David White – CFO: Yes. So, let me take that first part. This is David. So, our overall capital allocation strategy is really consistent with what we’ve talked about in the past, and that is basically taking the advantage of the fact. We’ve got an incredibly strong core hotel franchising business that we think we can build off of and monetize some adjacencies and some complimentary areas to be additive to that, for example SkyTouch and the other, I think we talked about which is Bluegreen. So SkyTouch specifically – just to put that in a context from our capital investment perspective, it’s really a very controlled level of investment. We think for 2013 the total spend on that initiative will be somewhere between about $12 million and $14 million. So if you put that in to context of what we think the opportunity is and the fact that we think we can get relatively rapid answers in terms of the revenue generation capability of it, we think that’s a good bet for our shareholders. So, as you mentioned the dividend, we did accelerate our Q1 dividend into last year, just a reflection of the fact what was going on in the tax environment, but our dividend policy is unchanged. We just actually announced on Friday the second quarter dividend of $0.185, so an annualized run rate of $0.72 for our dividend policy — $0.74 for our dividend policy, share repurchases. We do have a remaining authorization of share repurchases of about 1.4 million shares and as you know over time we have been an active share repurchaser and we would expect to continue that over time depending upon market conditions. So overall, SkyTouch its right into the capital allocation strategy around finding ways to grow value for our shareholders and as we think pretty appropriate way to try to monetize the competency which Steve highlighted which is technology excellence in this hotel and travel space and I mean the other thing that’s exciting about it is it could be a starting point that we could potentially attach other technology ideas to. So if we can get the product into the hotel space outside of our system which Steve pointed we already have it in 5,000 hotels in our system potentially ways that we can add features and functionality and bolt on other technology opportunities in that travel space going forward.

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Stephen P. Joyce – President and CEO: The one thing that we want to be very clear about is our priorities have not changed at all our number one priority has been since the inception of this company and will continue to be return of value to shareholders. The great thing about this company though is good times and bad, it is an incredible cash generating machine, and so that allows us to do lots of things, like that special dividend, like repurchase shares as we see opportunity like pay a regular dividend and invest in growth businesses, when we paid that special dividend, just last August, we said be very clear, this will keep us from doing nothing is important for us to grow. So we are going to we continue to push on lots of different avenues and you’ll expect to see that from us, but it’s important that we reiterate to all of you that return of value to shareholders is always going to be our first lever. Then on your second question about the new development, those leverage levels are moving back up. A year ago you were looking at – in the 50s and you are lucky if it pushed to mid or low 60s. Now, in a lot of cases we are seeing financing that’s pushing more into 70%, so you are seeing 30% equity, 70% deals more frequently for some of our large franchisees, they are doing even better than that, but I would say, a safe bet was to assume that you got equity coming in in that 30% to 35% range and the rest of it being covered by financing, which is an improving market for hotels. It is not a rapidly improving, but it is a continually improving opportunity, so quarter-by-quarter we see better and better options for our franchisees and they are starting – and that’s what’s causing their enthusiasm and their optimism about certain projects.