Summary
- Peak Resorts was the victim of a weak and neglected IPO.
- Thanks to this, we can buy Peak with a fat 6.5% yield.
- The 2014-15 ski season is shaping up great: Strong snows and low gas prices bode well.
- 30% near-term gains: Peak should trade to north of $11 this quarter, this stock won't yield more than 5% for long.
In the flood of IPOs recently, investors have overlooked one of the best offerings. With eyes focused on Alibaba, premium burgers, and budget airlines, it appears that Peak Resorts (NASDAQ:SKIS) has slid onto the market without anyone noticing. However, this northeastern ski resort operator runs a strongly profitable business and throws off an immediate sustainable yield of 6.5% based on the current $8.50 share price.
Why is Peak Resorts such an attractive prospect? Simple, people looked at the $9-11 offering range, particularly in conjunction with the high but totally meaningless trailing P/E and said, "not interested." The stock priced at $9, the low end of the range, and immediately skidded southbound on day one.
Sure, had Peak priced at $11, maybe it wouldn't have been an interesting offering, but at $9 it should have been on investors' radars and at $8.50, it's tantalizing, particularly as we head into the start of what's shaping up to be a fantastic ski season. At $8.50, this company is an accidental high yielder. But it won't stay that way for long - this company should not and will not sport a 6.5% yield for long.
Simply, this stock is profoundly cheap for two reasons. One, dividend investors haven't figured out it exists yet. They will within a quarter or two. And a closely related second, the company's yield doesn't yet appear in stock screeners. Look at Seeking Alpha, Yahoo Finance, or other such finance sites, and you'll see "0" for Peak's yield.
When the yield becomes widely public knowledge, Peak Resorts shares will surge. In a ZIRP environment, quality businesses don't see their yields stay elevated at 6.5% levels. Peak Resorts has a reasonably strong business with decent organic growth, generates strong cash flow, and is promptly returning that cash to shareholders. There's no reason its yield will stay at 6.5%. That level in this market represents the yield a distressed asset casts off. Once Peak turns in a solid quarter or two and investors start seeing the dividend turn from discussion in an SEC prospectus into a hard tangible fact, investor sentiment is going to execute a 180 degree spin.
Peak Resorts: Leading Northeastern Ski Operator
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Source: Prospectus
The ski resort industry is highly fragmented, with fewer than 13% of the country's 470 ski resorts being owned by companies that own 4 or more resorts. Put another way, the vast majority - roughly 400 - of the country's ski resorts are owned by small companies or are mom and pop operations. As such Peak, as one of the largest players and with one of the most experienced management teams has a big leg up on the competition.
While the company has properties across the Midwest as well, it is worth considering that the majority of the company's revenues come from the cluster of northeastern resorts. As such, the weather in this area of the country is the important barometer for measuring the company's winter ski season results. As we'll discuss later in this article, things are off to a great start in the northeast for this 2014-15 ski season.
Why This Peak Opportunity Got So Cheap
One of the most famous aphorisms in investing is Mr. Buffett's claim that it's better to buy a wonderful company at a fair price than a fair company at a wonderful price. That may be true. However particularly in this market, where valuations are stretched everywhere you look and leading dividend investors are suggesting there may be a bubble in their sector, I'd argue there's nothing at all wrong with buying a fair company at a wonderful price. And that's exactly what Peak Resorts represents, a fair company selling at a fantastic valuation.
This comes for several reasons. First, the company, to the extent it has any public awareness, probably comes with some baggage. This would be in part thanks to the pulled 2011 IPO offering.
Since then, another competitor, Intrawest Holdings (NYSE:SNOW) went public and has traded poorly. This is thanks to that operation's company-specific problems which include a jaw-dropping three straight quarterly earnings misses to start its tenure as a publicly-listed company. Ouch. Intrawest's problems haven't knocked leader Vail Resorts' (NYSE:MTN) nosebleed valuation out of the triple-digit PE range. There's still plenty of demand for ski operators if their business operations perform well.
Anyways, these clouds diminished enthusiasm for Peak Resorts' IPO debut. Shares priced at the low end of the range, coming off at $9/share and immediately went south. Based on a cursory overview of the company, it doesn't appear to be greatly profitable, and as such investors took a pass. In fact, looking at both the IPO preview articles here at Seeking Alpha, both share the same generally misleading misconceptions.
Myth #1: Peak Resorts hasn't capitalized on its operations
From Don Dion's IPO preview titled: Investors Should Stay Inside For Peak Resorts' IPO, we get this: "While we are encouraged by PEAK's increased revenues, reported net losses are concerning … until SKIS can prove its ability to capitalize in cold climates, we suggest investors hold off."
While we're at it, let's throw myth #2 in there as well. This myth being that Peak Resorts makes losses.
It's true that Peak Resorts in its pre-IPO state made a small loss in fiscal year 2014, along with a larger profit in 2013, in sum it was net marginally profitable pre-IPO. That is the extent of the truth to the above claims. And a deeper reading of the Peak prospectus would make it clear that past results are not comparable to how Peak operates post-IPO.
That's for a simple reason. Substantially all of the IPO monies are being used to repay high-interest debt. The company produced $25 million in reported EBITDA in the fiscal year ending April 2014. After taking out the $10 million in CAPEX to maintain the ski resorts, you end up with $15 million in income from operations off a $105 million revenue base, which ends up being a more than acceptable 14% margin.
With a market cap of $115 million, Peak Resorts is trading at less than 5x/EBITDA. Of course, the sticking point is that the company paid $17 million in interest service last year. Simple math shows that if you have $15 million in post CAPEX profit and $17 million interest, you show a loss. And due to this, Peak looks unprofitable to a cursory glance.
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But the whole point of the IPO was to pay off debt, a fact it seems everyone missed. Nearly all of the IPO's proceeds are being used to pay off debt. This debt all is at painfully high 10-11% interest rates. Retiring this excessively-high yielding paper will slash the company's interest burden by roughly $10 million per year, from $17 million to $7 million or so post-IPO.
Peak Yield: The Key Fact Investors Have Missed
Now the numbers change drastically. We still have our $15 million of post-CAPEX profit (arguably this should be even more as the company has been overinvesting in CAPEX relative to D&A to modernize facilities recently). From the $15 million we now pay out $7 million in interest and have $8 million left over in free cash flow.
And guess what, the company is going to be paying that saved interest expense straight out to us shareholders. In a nutshell, the company used the IPO to pay off 10% interest debt, it now pays what was supposed to be a 5% yield to shareholders (now 6.5% thanks to the market irrationally marking down the stock), and keeps the difference to shore up its balance sheet and reinvest in operations.
This is a fantastic capital allocation decision, one that benefits all parties involved. By jettisoning the high-yield debt the company now is freed from its interest noose, and it will immediately reward the IPO buyers with a healthy yield in return. The company used the equity market to essentially refinance its debt at a much more attractive rate, and with the stock's slide, we as equity holders can now get a great yield and the equity upside as the company's core operations continue to show acceptable organic growth.
Myth #3: Peak Resorts Stock Is Expensive
This goes along with the previous myths. Another author recommends staying away from Peak Resorts citing the 93x trailing P/E and saying earnings are subject to swings due to erratic snowfalls.
As you saw above, earnings appear constrained due to the excessive interest burden the company previously faced. As you can see from looking at five years of trailing earnings that I posted, only in 2012 did the company really struggle due to the weather. Four out of five years, the company was solidly profitable to the point of being able to cover the dividend once you factor out interest expense. Peak Resorts is not a 93 P/E stock, and its earnings and dividend are not subject to small swings in weather.
In reality, now that the interest expense is sharply reduced, the truth is the company is trading at roughly $115 million market cap and produces $8 million in net income ex the interest burden (and ex-changing tax consequences). That's a 14 trailing P/E, with earnings likely to rise this year, in particular thanks to great weather. I don't know about you, but 14 trailing P/E with growth, a 6.5% yield, and 1.1x/sales seems pretty cheap to me. If you want a cross-check, compare those numbers against competitors Vail Resorts or Intrawest. The idea that Peak Resorts is expensive is quite misguided.
Looking at reported EBITDA and interest expense over the past five years in the table I posted above, you'll see that interest has eaten at minimum 40% and at times up to 80% of reported EBITDA, leaving little for reinvestment in the business or for net income. With the interest burden cut dramatically, now we get net income and yield in place of that interest expense.
Catalyst #1: The 6.5% Yield
Specifically, from the prospectus: "We intend to pay the first dividend in February 2015, which will include an amount on a pro-rated basis for the period from the effective date of this offering to January 31, 2015 and, thereafter, to pay dividends on a quarterly basis. Based on our cash flow history and the savings on interest payments we will experience as a result of our application of the use of proceeds from this offering, we believe that we have a reasonable basis for setting the initial quarterly dividend rate at $0.1375 per share."
13.75 cents per quarter, otherwise stated as 55 cents per year. This as a result of this capital allocation to pay off the high-yield debt with better priced equity. Again, at $8.50, you're looking at a 6.5% yield. Management has shown with this clearly stated dividend policy that they are looking out for shareholders, which isn't surprising as management itself holds a big stake in the company post-IPO. The seven named directors and executive officers hold 16.2% of the company post-IPO, so their interests are aligned with shareholders nicely.
How many profitable, not highly-levered growing businesses in sound industries pay 6.5% yields at present? Virtually none. As such, we have catalyst #1 for shares to move higher... there's no reason for the yield to be this high, other than investor ignorance, and it certainly won't stay this high for long.
And remember, no one is aware of this yield yet. Look up the company's stats online and the yield is still shown at zero. Until the company makes its first payment, the company won't show up in a high-yield screener. In this case, the early bird does indeed get the worm.
Catalyst #2: Excellent 2014-2015 Ski Season
In addition to the yield, which is already a great reason to own the stock, we have the added benefit that winter is off to a great start, particularly in the northeast. Accuweather has forecast a cold and snowy winter in the northeast and it is living up to expectations. Accuweather forecast that "in addition to the cold air, a big snow season could be in the offing." Buffalo notably already received a gigantic blizzard and there's been much snow across the northeast even in the early stages of this winter season. Accuweather's winter forecast:
Source: Accuweather.com
More specifically to Peak Resorts, we can see when the company's resorts have opened over the last five years:
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The company's top revenue generator, Mount Snow already opened for the season last week - which puts this year's opening well ahead of its average opening date. And Attitash, the #2 source of revenue for the company, isplanning to open December 5th, which is earlier than it has opened any of the past five years. Rest assured, this is shaping up to be an excellent winter for Peak Resorts' properties. Expect record revenues.
Catalyst #3 Low Gas Prices
Peak Resorts differentiates itself from the other listed ski resort operators by noting the fact that its resorts are driving rather than flying destinations. Unlike the big western Colorado resorts run by the likes of Vail and Intrawest, Peak's ski facilities are in the east, within short-to-moderate driving range of major eastern metropolitan areas.
Whereas a typical visitor to, say, Vail is going to fly there, need lodging, and all in all spend a lot more time and money on their trip, the average visitor to Peak Resorts isn't spending that much money and can come quite a few times per season, particularly if the weather is good and gas is cheap, as is the case this year. There's a lot more marginal consumption possible when the economy and in particular fuel prices enable more consumptive behavior.
In fact, Peak's average revenue per skier comes in at $67, which makes it a fairly modest expense as far as discretionary leisure activities go. (Worth noting, however, that this figure is up from $55 per skier in 2010, so the company is still growing monetization nicely.)
With gas prices falling sharply in 2014, analysts have been talking up companies that will benefit from the extra cash in consumers' pockets. Peak Resorts is one of these companies ideally situated to benefit from consumers' extra spending power. Cheaper gas makes consumers more likely to be willing to drive for leisure, extra cash means more visits in general, and likely more ancillary spending on restaurants, ski lessons, and other such additional expenditures while at Peak's properties. In summary, if you're looking for a play on the stronger American consumer, particularly that benefits from lower gas prices, you're looking in the right place here.
Peak Resorts: A Pretty Good Business At A Truly Fantastic Price
I get it. At 3.4% CAGR, Peak Resorts' revenue growth rate in recent years hasn't been stunning. The trailing net income figure looks pretty paltry, particularly if you don't look past the now-mitigated interest expense. I can see why investors passed on the IPO. If you didn't take the time to read the prospectus, it's easy to glance past this offering.
Thanks to that ambivalence, we now have a fantastic opportunity. At $8.50/share, you're looking at a company trading under 15x earnings after accounting for the now-lightened interest expense. At $8.50/share, you get a 6.5% yield and a company trading at just 1.1x sales. The debt burden is now greatly lightened. The company has an experienced management team, and there's upside potential from the company's real estate land development holdings that I haven't even touched on in this article in the interest of brevity.
It's extremely unlikely that this company will stay priced in the low 8s as it kicks out a 55 cent annual dividend. Even in the improbable scenario where investors overlook the yield, you still have to consider that this winter is off to a fantastic start, and that the company is positioned perfectly to benefit from the twin strengths of a stronger American consumer and plummeting gas prices. Fat yield, increasing revenues and profits, and a blowout 2014-15 winter ski season already under way. What's not to like?
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