Analysts see logic in Pebblebrook’s pursuit of LaSalle
 
Analysts see logic in Pebblebrook’s pursuit of LaSalle
29 MARCH 2018 8:40 AM

Analysts believe that despite LaSalle Hotel Properties’ rejection of Pebblebrook Hotel Trust’s initial merger proposal, the deal could still happen.

BETHESDA, Maryland—LaSalle Hotel Properties has rejected a proposed merger by Pebblebrook Hotel Trust, but analysts believe investor pressure could make this long-awaited deal happen.

Pebblebrook shared publicly yesterday that it had proposed a share-for-share merger with LaSalle with an implied merger price of $30 per LaSalle share. However, LaSalle turned down the initial offer. In response to Pebblebrook making the exchange public, LaSalle put out a news release further explaining its reasoning for rejecting the offer.

Executives for LaSalle declined to comment further at this time.

In an interview, Pebblebrook EVP and CFO Raymond Martz said the proposed merger would be a great deal for both Pebblebrook and LaSalle shareholders.

“If we completed this, it would be the largest owner of independent hotels,” he said. “It would be the second-largest hotel REIT by equity market cap next to Host (Hotels & Resorts).”

Having a large number of independent hotels creates opportunities when dealing with independent managers, he said, and creates potential synergies in some markets.

Admitting he and other company officials are biased, he said, “We think it’s a win-win across the board”

Analysts’ thoughts
There’s been talk for years about Pebblebrook and LaSalle merging, said Wes Golladay, VP and equity research analyst at RBC Capital Markets, but that was expected to play out with LaSalle buying Pebblebrook when Pebblebrook President and CEO Jon Bortz retires because Pebblebrook is a smaller company. As of press time, Pebblebrook has a market capitalization of roughly $2.4 billion while LaSalle’s is approximately $3.2 billion.

Pebblebrook taking on its current role became more of an option only in the last year or so, Golladay said.

Investors generally have reacted positively to the news of the proposed merger, he said, particularly compared to the market’s initial reaction of RLJ Lodging Trust’s offer to buy FelCor Lodging Trust. One of the main differences between the two is RLJ and FelCor had different types of assets, he said, whereas Pebblebrook and LaSalle have similar portfolio types.

That positive reaction and Pebblebrook’s initial offer price will put pressure on LaSalle’s board and management to really consider offers, Golladay said.

“If you turn down a materially higher offer, it will be a very difficult road for the company for the next year or so,” he said.

LaSalle would have to show exactly why it’s turning down the offers, he said, and so far it hasn’t articulated what it believes to be its valuation. The stock hasn’t been in the 30s for a while, he said, and it’s hard to say that Pebblebrook’s offer was “grossly inadequate.”

The key here for Pebblebrook is to get LaSalle to engage, he said.

Michael Bellisario, VP of equity research and senior analyst at Baird, had a similar assessment of the situation. LaSalle’s board and management team made it clear through their response Pebblebrook would have to adjust its stock-only offer, he said, but Pebblebrook should have the ability to make the offer more attractive.

However, that all depends on stock prices, he said. LaSalle might be able to get Pebblebrook to up its share price a couple of dollars or include some cash in the mix, he said, but that offer might not be able to compete with an all-cash offer from a private equity player, even if it comes in a little lower than Pebblebrook’s price per share.

“Cash is more valuable than stocks, especially based on LaSalle’s response letter yesterday,” he said.

In a note about the proposed merger by C. Patrick Scholes, managing director of lodging and leisure equity at SunTrust Robinson Humphrey, Scholes wrote hotel REIT consolidation is a reasonable strategy for companies in an environment of low revenue per available room growth and increasing labor costs.

“In our opinion, this combination would create significant synergies and owner power,” he wrote. “(LaSalle) surprised the Street with very weak 2018 guidance (particularly 1Q), and we are not surprised that (Pebblebrook) is taking advantage of current price dislocation.”

The two companies have similar portfolio orientations, he wrote, as they own upper upscale and luxury hotels, many of which fit in the boutique/independent space, in largely urban markets. Bortz is the former CEO of LaSalle, he noted, and Pebblebrook’s leadership is capable of providing value to the LaSalle portfolio and would make for a relatively easy transition.

LaSalle has “arguably the best portfolio of hotels out there in REIT land,” Scholes wrote, and the assets are worth more than the 12.5x 2019 earnings before interest, taxes, depreciation and amortization the stock had been trading at.

“For us, due to the ‘challenges,’ we struggled to believe (LaSalle) would get its rightful multiple, which we have been telling investors is at least 14.5x, perhaps a point higher, and it would take an buyout offer for that value to be unlocked,” he wrote. “Today that offer has been made. We believe if (LaSalle) does not accept an offer in the $30 to $32 range, this could put them in the investor doghouse and make them ripe for activist investors, similar to what is happening with RLJ.”

People have been talking about hotel REIT mergers and acquisitions for years now, Golladay said, but instead, there have been more companies forming via spinoffs. More M&A should happen in this space, he said, as some of these companies are “pretty tiny.”

The acquisition of FelCor by RLJ didn’t kick off a wave of M&A activity among REITs, Bellisario said, and he doesn’t expect a deal between Pebblebrook and LaSalle would either. The deal is unique to the two companies based on how similar they are in asset type, location and investor base.

“The LaSalle/Pebblebrook scenario is specific to both companies,” he said. “Pebblebrook is not going after anyone else. I don’t see other REITs coming after LaSalle. Today, it’s still unique to these two.”

The exchange
Pebblebrook publicly shared that it had sent a letter in early March to Stuart Scott, chairman of LaSalle’s board of trustees, and President and CEO Mike Barnello, proposing a share-for-share merger between the two companies.

“My management team and I, as well as the trustees of Pebblebrook, have believed for several years that there would be tremendous benefits from merging our two companies, both of which have many similarities, including quality, geography and markets, operators, brands, and overall approach to asset management,” Bortz wrote. “An all-equity strategic combination of our two companies would create the clear industry leader of high-quality independent and branded hotels that would greatly benefit the shareholders of both companies.”

The letter noted that Pebblebrook had acquired a 4.8% position in LaSalle’s common shares through open-market positions as a way to show the company’s “conviction to the transaction.”

Pebblebrook then followed up in two weeks later with a second letter when it had not received a response from LaSalle.

LaSalle’s Scott and Barnello responded two days later, stating its board of trustees unanimously decided the proposal was “insufficient from both a price and mix of consideration perspective” and pursuing it was not in the best interests of LaSalle’s shareholders.

After Pebblebrook made the merger proposal and letter exchange public, LaSalle put out a news release confirming its board had rejected the proposed merger.

“Consistent with our fiduciary duties, the board has taken the time to carefully evaluate the proposal and the future potential of a combined company, and we have concluded that the proposal is grossly inadequate and is, therefore, not in the best interests of our shareholders,” Scott said in the release. “The board is focused on the continued execution of our strategic plan, prudent capital allocation, and our superior hotel portfolio, which will deliver greater value, sooner to our shareholders than Pebblebrook’s low-premium proposal.”

In the release, Scott also stated the board is open-minded and would consider alternatives to enhance long-term value for shareholders.

The release also included the board’s reasoning for rejecting the offer, stating the proposal “significantly undervalues” LaSalle’s portfolio and prospects for future value creation, Pebblebrook has a history of missing RevPAR guidance as well as the timing of the proposal comes during a short-term dislocation of LaSalle’s share price.

In response to LaSalle’s news release, Pebblebrook released this statement: “Investors from both companies have long encouraged Pebblebrook and LaSalle to consider merging, and we agree that it makes sense. As we have communicated to LaSalle, we are open to discussions around price and mix as warranted by due diligence and urge the LaSalle board to engage with us in a constructive way.”

2 Comments

  • Anonymous April 1, 2018 8:28 PM Reply

    there's always talk about hotels being an institutional grade investment but until deals like this happen to create bigger and more effective REITs in lodging, it will still be a secondary investment option for big investors. It's just not there yet.

  • Indian April 21, 2018 2:08 AM Reply

    I don't even know what to say, this made things so much earise!

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