• The timing issue on Hilton

At the very end of December, California-based Hilton Hotels Corporation (HHC) announced it was paying £3.3bn to buy the hotels business of Hilton Group, the UK hotels and gaming company. The biggest question that arises from the impending marriage is: why now?

The couple have been formally engaged since 1997 when they signed their joint marketing agreement and yet it has taken eight more years until finally committing to a date to walk down the aisle.

As late as this summer, Hilton Group chief executive David Michels was saying that he saw no compelling reason to do the deal. Of course, this may just have been a poker play.

But even the usually affable Matt Hart, CFO at HHC, offered a curt ?no comment? when challenged by Hotel Analyst six months ago about the possibilities of a tie-up.

The obvious reason for the timing is that there is now a willing buyer and a willing seller. Despite all the huffing and puffing about different sets of shareholders not wanting US stock or UK stock, or talk of tax implications, the real stumbling block to any merger is usually the personalities.

And in this case there were big personalities: HHC CEO Steve Bollenbach and David Michels in a trans-Atlantic face-off. It could be argued that Michels has come-off the worst, except that personally he will be some £9m richer.

In terms of bragging, HHC certainly seems happier than Hilton Group. The investor presentation from HHC ran to 70 slides. Hilton Group had just nine.

And there is reason to believe that Hilton Group shareholders would be less willing to back a reverse of the deal ? the different valuations put on the shares make a clear point. The price earnings ratio on 2005 estimates stood at 18 times for Hilton Group and 26 times for HHC in December prior to the deal, according to US investment bank Jefferies.

The price being paid for the Hilton assets is £3.3bn, about 11.6 times 2006 EV/EBITDA, according to ABN Amro. This compares to the bank's forecast EV/EBITDA ratio in 2006 for the whole of Hilton of 10.5 times.

HHC addressed the 'why now' issue in its own presentation. It suggested that the strong free cash flow and strong balance sheet of HHC put it in the position to do the deal and it said that Hilton Group was willing to sell.

HHC also said that the recovery in the UK and Nordic markets was a key driver. And it added that Hilton Group's strategy had begun to mirror its own, thanks to a focus on fees and asset sales.

The latter point is worth looking at more closely. While it is true that HHC has a successful franchise business thanks to its Promus acquisition, it has not been as aggressive at selling existing upscale property as Hilton Group.

And here lies a key strategic challenge for the combined entity. If things stay as at present by the completion of the deal \ expected to be early in the second quarter this year \ then HHC is the world's biggest hotel company by revenues.

But it has a huge asset base and must surely come under pressure from its own shareholders to follow the example set by Starwood. As it sells, its revenue stream will shrink.

To some extent, this will be mitigated by faster growth. HHC is committing to a system growth rate of 7% starting in 2007. It believes it can take the Doubletree and Hilton Garden Inn brands into Europe and will continue growing the Scandic brand in the region.

But ultimately, this deal is the start of HHC becoming a more focused brand and management company.


Background briefing: The £3.3bn deal to buy Hilton Group's 403 hotels formally reunites the Hilton brand after a split in 1964. Together with the sale of the property interests in 16 UK Hiltons, it will bring Hilton Group?s proceeds to £3.7bn.

The 16 hotels were sold in late November to early December to The Managed Hotels Unit Trust for £397.2m.

Hilton Group is to become a focused gaming company and will re-adopt the moniker Ladbrokes. It will be headed by Chris Bell, current boss of the gaming operation. Current Hilton International chief executive Ian Carter will become executive vice president and CEO of Hilton International at HHC.

And Hilton CEO Michels and FD Brian Wallace are transferring to HHC on three-year contracts to assist in the transition process.
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