Wyndham Worldwide 10-Q 2012
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
For the quarterly period ended March 31, 2012
For the transition period from to
Commission File No. 001-32876
Wyndham Worldwide Corporation
(Exact name of registrant as specified in its charter)
(Registrants telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ
The number of shares outstanding of the issuers common stock was 145,907,691 shares as of March 31, 2012.
Table of Contents
PART I FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited).
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
Wyndham Worldwide Corporation
Parsippany, New Jersey
We have reviewed the accompanying consolidated balance sheet of Wyndham Worldwide Corporation and subsidiaries (the Company) as of March 31, 2012, and the related consolidated statements of income, comprehensive income, equity and cash flows for the three-month periods ended March 31, 2012 and 2011. These interim consolidated financial statements are the responsibility of the Companys management.
We conducted our reviews in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board (United States), the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should be made to such consolidated interim financial statements for them to be in conformity with accounting principles generally accepted in the United States of America.
We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of the Company as of December 31, 2011, and the related consolidated statements of income, comprehensive income, stockholders equity and cash flows for the year then ended (not presented herein); and in our report dated February 17, 2012, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 2011 is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.
/s/ Deloitte & Touche LLP
Parsippany, New Jersey
April 25, 2012
CONSOLIDATED STATEMENTS OF INCOME
(In millions, except per share amounts)
See Notes to Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
See Notes to Consolidated Financial Statements.
CONSOLIDATED BALANCE SHEETS
(In millions, except share data)
See Notes to Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF CASH FLOWS
See Notes to Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF EQUITY
See Notes to Consolidated Financial Statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unless otherwise noted, all amounts are in millions, except share and per share amounts)
Wyndham Worldwide Corporation (Wyndham or the Company) is a global provider of hospitality services and products. The accompanying Consolidated Financial Statements include the accounts and transactions of Wyndham, as well as the entities in which Wyndham directly or indirectly has a controlling financial interest. The accompanying Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America. All intercompany balances and transactions have been eliminated in the Consolidated Financial Statements.
In presenting the Consolidated Financial Statements, management makes estimates and assumptions that affect the amounts reported and related disclosures. Estimates, by their nature, are based on judgment and available information. Accordingly, actual results could differ from those estimates. In managements opinion, the Consolidated Financial Statements contain all normal recurring adjustments necessary for a fair presentation of interim results reported. The results of operations reported for interim periods are not necessarily indicative of the results of operations for the entire year or any subsequent interim period. These financial statements should be read in conjunction with the Companys 2011 Consolidated Financial Statements included in its Annual Report filed on Form 10-K with the Securities and Exchange Commission (SEC) on February 17, 2012.
The Company operates in the following business segments:
Recently Issued Accounting Pronouncements
Fair Value Measurement. In May 2011, the Financial Accounting Standards Board (FASB) issued guidance which generally provides a consistent definition of fair value and ensures that the fair value measurement and disclosure requirements are similar between U.S. GAAP and International Financial Reporting Standards. The guidance changes certain fair value measurement principles and enhances the disclosure requirements particularly for Level 3 fair value measurements. This guidance is effective for interim and annual reporting periods beginning after December 15, 2011 and shall be applied on a prospective basis. The Company adopted the guidance on January 1, 2012, as required. There was no material impact on the Consolidated Financial Statements resulting from the adoption.
Testing Goodwill for Impairment. In September 2011, the FASB issued guidance on testing goodwill for impairment, which amends existing guidance by giving an entity the option to first assess qualitative factors to determine whether it is more likely than not, that the fair value of a reporting unit is less than its carrying
amount. If it is concluded that the fair value of a reporting unit is, more likely than not, less than its carrying amount, then it would be necessary to perform the currently prescribed two-step goodwill impairment test. Otherwise, the two-step goodwill impairment test is not required. This guidance is effective for interim and annual goodwill impairment tests performed for fiscal years beginning after December 15, 2011, with early adoption permitted. The Company adopted the guidance on January 1, 2012, as required. There was no material impact on the Consolidated Financial Statements resulting from the adoption.
The computation of basic and diluted earnings per share (EPS) is based on net income available to Wyndham Worldwide stockholders divided by the basic weighted average number of common shares and diluted weighted average number of common shares, respectively.
The following table sets forth the computation of basic and diluted EPS (in millions, except per share data):
The computations of diluted EPS do not include 120,000 and 3 million stock options and stock-settled stock appreciation rights (SSARs) for the three months ended March 31, 2012 and 2011, respectively, as the effect of their inclusion would have been anti-dilutive to EPS. In addition, the three months ended March 31, 2012 and 2011 exclude 609,000 and 350,000 performance vested restricted stock units (PSUs), respectively, as the Company had not met the required performance metrics (see Note 12 Stock-Based Compensation for further details).
During the quarterly periods ended March 31, 2012 and 2011, the Company paid cash dividends of $0.23 and $0.15 per share, respectively ($37 million and $27 million, respectively, in the aggregate).
Stock Repurchase Program
The following table summarizes stock repurchase activity under the current stock repurchase program:
The Company had $229 million remaining availability in its program as of March 31, 2012. The total capacity of this program is increased by proceeds received from stock option exercises.
The Company generates vacation ownership contract receivables by extending financing to the purchasers of its VOIs. Current and long-term vacation ownership contract receivables, net consisted of:
During the three months ended March 31, 2012 and 2011, the Companys securitized vacation ownership contract receivables generated interest income of $76 million and $83 million, respectively.
Principal payments that are contractually due on the Companys vacation ownership contract receivables during the next twelve months are classified as current on the Consolidated Balance Sheets. During the three months ended March 31, 2012 and 2011, the Company originated vacation ownership contract receivables of $240 million and $198 million, respectively, and received principal collections of $192 million and $199 million, respectively. The weighted average interest rate on outstanding vacation ownership contract receivables was 13.3% at both March 31, 2012 and December 31, 2011.
The activity in the allowance for loan losses on vacation ownership contract receivables was as follows:
In accordance with the guidance for accounting for real estate timesharing transactions, the Company recorded a provision for loan losses of $96 million and $79 million as a reduction of net revenues during the three months ended March 31, 2012 and 2011, respectively.
Credit Quality for Financed Receivables and the Allowance for Credit Losses
The basis of the differentiation within the identified class of financed VOI contract receivable is the consumers FICO score. A FICO score is a branded version of a consumer credit score widely used within the U.S. by the largest banks and lending institutions. FICO scores range from 300 850 and are calculated
based on information obtained from one or more of the three major U.S. credit reporting agencies that compile and report on a consumers credit history. The Company updates its records for all active VOI contract receivables with a balance due on a rolling monthly basis so as to ensure that all VOI contract receivables are scored at least every six months. The Company groups all VOI contract receivables into five different categories: FICO scores ranging from 700 to 850, 600 to 699, Below 600, No Score (primarily comprised of consumers for whom a score is not readily available, including consumers declining access to FICO scores and non U.S. residents) and Asia Pacific (comprised of receivables in the Companys Wyndham Vacation Resort Asia Pacific business for which scores are not readily available).
The following table details an aged analysis of financing receivables using the most recently updated FICO scores (based on the update policy described above):
The Company ceases to accrue interest on VOI contract receivables once the contract has remained delinquent for greater than 90 days. At greater than 120 days, the VOI contract receivable is written off to the allowance for loan losses. In accordance with its policy, the Company assesses the allowance for loan losses using a static pool methodology and thus does not assess individual loans for impairment separate from the pool.
Inventory consisted of:
Inventory that the Company expects to sell within the next twelve months is classified as current on the Consolidated Balance Sheets.
The Companys indebtedness consisted of:
2012 Debt Issuances
2.95% Senior Unsecured Notes. During March 2012, the Company issued senior unsecured notes, with face value of $300 million and bearing interest at a rate of 2.95%, for net proceeds of $298 million. Interest began accruing on March 7, 2012 and is payable semi-annually in arrears on March 1 and September 1 of each year, commencing on September 1, 2012. The notes will mature on March 1, 2017 and are redeemable at the Companys option at any time, in whole or in part, at the stated redemption prices plus accrued interest through the redemption date. These notes rank equally in right of payment with all of the Companys other senior unsecured indebtedness.
4.25% Senior Unsecured Notes. During March 2012, the Company issued senior unsecured notes, with face value of $650 million and bearing interest at a rate of 4.25%, for net proceeds of $643 million. Interest began accruing on March 7, 2012 and is payable semi-annually in arrears on March 1 and September 1 of each year, commencing on September 1, 2012. The notes will mature on March 1, 2022 and are redeemable at the Companys option at any time, in whole or in part, at the stated redemption prices plus accrued interest through the redemption date. These notes rank equally in right of payment with all of the Companys other senior unsecured indebtedness.
Sierra Timeshare 2012-1 Receivables Funding, LLC. During March 2012, the Company closed a series of term notes payable, Sierra Timeshare 2012-1 Receivables Funding LLC, in the initial principal amount of $450 million at an advance rate of 87.5%. These borrowings bear interest at a weighted average coupon rate of 3.01% and are secured by vacation ownership contract receivables. As of March 31, 2012, the Company had $450 million of outstanding borrowings under these term notes.
Early Extinguishment of Debt
During the first quarter of 2012, the Company repurchased a portion of its 9.875% senior unsecured notes and 6.00% senior unsecured notes through tender offers totaling $650 million. In connection with these tender offers, the Company incurred a loss of $106 million during the three months ended March 31, 2012, which is included within early extinguishment of debt on the Consolidated Statement of Income.
During the first quarter of 2011, the Company repurchased a portion of its convertible notes and settled a portion of the related call options. In connection with these transactions, the Company incurred a loss of $12 million during the three months ended March 31, 2011, which is included within early extinguishment of debt on the Consolidated Statement of Income.
Maturities and Capacity
The Companys outstanding debt as of March 31, 2012 matures as follows:
Debt maturities of the securitized vacation ownership debt are based on the contractual payment terms of the underlying vacation ownership contract receivables. As such, actual maturities may differ as a result of prepayments by the vacation ownership contract receivable obligors.
As of March 31, 2012, available capacity under the Companys borrowing arrangements was as follows:
During the three months ended March 31, 2012 and 2011, the Company recorded $33 million and $32 million, respectively, of interest expense as a result of long-term debt borrowings and capitalized interest. Such amounts are recorded within interest expense on the Consolidated Statements of Income. Cash paid related to such interest expense was $44 million and $24 million during the three months ended March 31, 2012 and 2011, respectively, excluding cash payments related to early extinguishment of debt costs.
During the three months ended March 31, 2012 and 2011, the Company incurred interest expense of $34 million and $35 million, respectively, primarily in connection with its long-term debt borrowings, partially offset by capitalized interest of $1 million and $3 million during the three months ended March 31, 2012 and 2011, respectively.
Interest expense incurred in connection with the Companys securitized vacation ownership debt was $23 million during both the three months ended March 31, 2012 and 2011 and is recorded within consumer financing interest on the Consolidated Statements of Income. Cash paid related to such interest was $18 million and $19 million during the three months ended March 31, 2012 and 2011, respectively.
The Company pools qualifying vacation ownership contract receivables and sells them to bankruptcy-remote entities. Vacation ownership contract receivables qualify for securitization based primarily on the credit strength of the VOI purchaser to whom financing has been extended. Vacation ownership contract receivables are securitized through bankruptcy-remote SPEs that are consolidated within the Consolidated Financial Statements. As a result, the Company does not recognize gains or losses resulting from these securitizations at the time of sale to the SPEs. Interest income is recognized when earned over the contractual life of the vacation ownership contract receivables. The Company services the securitized vacation ownership contract receivables pursuant to servicing agreements negotiated on an arms-length basis based on market conditions. The activities of these SPEs are limited to (i) purchasing vacation ownership contract receivables from the Companys vacation ownership subsidiaries; (ii) issuing debt securities and/or borrowing under a conduit facility to fund such purchases; and (iii) entering into derivatives to hedge interest rate exposure. The bankruptcy-remote SPEs are legally separate from the Company. The receivables held by the bankruptcy-remote SPEs are not available to creditors of the Company and legally are not assets of the Company. Additionally, the creditors of these SPEs have no recourse to the Company for principal and interest.
The assets and liabilities of these vacation ownership SPEs are as follows:
In addition, the Company has vacation ownership contract receivables that have not been securitized through bankruptcy-remote SPEs. Such gross receivables were $773 million and $757 million as of March 31, 2012 and December 31, 2011, respectively. A summary of total vacation ownership receivables and other securitized assets, net of securitized liabilities and the allowance for loan losses, is as follows:
In addition to restricted cash related to securitizations, the Company also had $61 million and $53 million of restricted cash related to escrow deposits as of March 31, 2012 and December 31, 2011, respectively, which was recorded within other current assets on the Consolidated Balance Sheets.
The guidance for fair value measurements requires disclosures about assets and liabilities that are measured at fair value. The following table presents information about the Companys financial assets and liabilities that are measured at fair value on a recurring basis and indicates the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair values. Financial assets and liabilities carried at fair value are classified and disclosed in one of the following three categories:
Level 1: Quoted prices for identical instruments in active markets.
Level 2: Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value driver is observable.
Level 3: Unobservable inputs used when little or no market data is available.
In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement falls has been determined based on the lowest level input (closest to Level 3) that is significant to the fair value measurement. The Companys assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.
The following table summarizes information regarding assets and liabilities that are measured at fair value on a recurring basis:
The Companys derivative instruments primarily consist of call options and a bifurcated conversion feature related to its convertible notes, pay-fixed/receive-variable interest rate swaps, pay-variable/receive-fixed
interest rate swaps, interest rate caps, foreign exchange forward contracts and foreign exchange average rate forward contracts (see Note 8 Derivative Instruments and Hedging Activities for more detail). For assets and liabilities that are measured using quoted prices in active markets, the fair value is the published market price per unit multiplied by the number of units held without consideration of transaction costs. Assets and liabilities that are measured using other significant observable inputs are valued by reference to similar assets and liabilities. For these items, a significant portion of fair value is derived by reference to quoted prices of similar assets and liabilities in active markets. For assets and liabilities that are measured using significant unobservable inputs, fair value is primarily derived using a fair value model, such as a discounted cash flow model.
The following table presents additional information about financial assets which are measured at fair value on a recurring basis for which the Company has utilized significant unobservable Level 3 inputs to determine fair value as of March 31, 2012 and March 31, 2011:
The fair value of financial instruments is generally determined by reference to market values resulting from trading on a national securities exchange or in an over-the-counter market. In cases where quoted market prices are not available, fair value is based on estimates using present value or other valuation techniques, as appropriate. The carrying amounts of cash and cash equivalents, restricted cash, trade receivables, accounts payable and accrued expenses and other current liabilities approximate fair value due to the short-term maturities of these assets and liabilities. The carrying amounts and estimated fair values of all other financial instruments are as follows:
The Company estimates the fair value of its vacation ownership contract receivables using a discounted cash flow model which it believes is comparable to the model that an independent third party would use in the current market. The model uses default rates, prepayment rates, coupon rates and loan terms for the contract receivables portfolio as key drivers of risk and relative value that, when applied in combination with pricing parameters, determines the fair value of the underlying contract receivables.
The Company estimates the fair value of its securitized vacation ownership debt by obtaining indicative bids from investment banks that actively issue and facilitate the secondary market for timeshare securities. The Company estimates the fair value of its other long-term debt using indicative bids from investment banks and determines the fair value of its senior notes using quoted market prices.
In accordance with the guidance for equity method investments, during the first quarter of 2011, an investment in an international joint venture in the Companys lodging business with a carrying amount of $13 million was written down due to the impairment of cash flows resulting from the Companys partner having an indirect relationship with the Libyan government. Such write-down resulted in a $13 million charge, which is included within asset impairment on the Consolidated Statement of Income for the three months ended March 31, 2011.
Foreign Currency Risk
The Company uses freestanding foreign currency forward contracts and foreign currency forward contracts designated as cash flow hedges to manage its exposure to changes in foreign currency exchange rates associated with its foreign currency denominated receivables, forecasted earnings of foreign subsidiaries and forecasted foreign currency denominated vendor payments. The amount of gains or losses the Company expects to reclassify from other comprehensive income to earnings over the next 12 months is not material.
Interest Rate Risk
A portion of the debt used to finance the Companys operations is exposed to interest rate fluctuations. The Company uses various hedging strategies and derivative financial instruments to create a desired mix of fixed and floating rate assets and liabilities. Derivative instruments currently used in these hedging
strategies include swaps and interest rate caps. The derivatives used to manage the risk associated with the Companys floating rate debt include freestanding derivatives and derivatives designated as cash flow hedges. The Company also uses swaps to convert specific fixed-rate debt into variable-rate debt (i.e., fair value hedges) to manage the overall interest cost. For relationships designated as fair value hedges, changes in fair value of the derivatives are recorded in income with offsetting adjustments to the carrying amount of the hedged debt. The amount of losses that the Company expects to reclassify from accumulated other comprehensive income (AOCI) to earnings during the next 12 months is not material.
The following table summarizes information regarding the gain amounts recognized in AOCI:
The following table summarizes information regarding the gain/(loss) recognized in income on the Companys freestanding derivatives:
The following table summarizes information regarding the fair value of the Companys derivative instruments:
The Company or one of its subsidiaries files income tax returns in the U.S. federal jurisdiction and various states and foreign jurisdictions. The Company is no longer subject to U.S. federal income tax examinations for years prior to 2008. In addition, with few exceptions, the Company is no longer subject to state and local, or non-U.S. income tax examinations for years prior to 2004.
The Companys effective tax rate was 29.5% and 37.9% for the three months ended March 31, 2012 and 2011, respectively. The effective tax rate decreased compared to the prior year primarily due to the tax benefit derived from the loss on the early extinguishment of debt.
The Company made cash income tax payments, net of refunds, of $18 million and $10 million during the three months ended March 31, 2012 and 2011, respectively.
The Company is involved in claims, legal proceedings and governmental inquiries related to the Companys business.
Wyndham Worldwide Litigation
The Company is involved in claims, legal and regulatory proceedings and governmental inquiries arising in the ordinary course of its business including but not limited to: for its lodging businessbreach of contract, fraud and bad faith claims between franchisors and franchisees in connection with franchise agreements and with owners in connection with management contracts, negligence, breach of contract, fraud, employment,
consumer protection and other statutory claims asserted in connection with alleged acts or occurrences at franchised or managed properties; for its vacation exchange and rentals businessbreach of contract, fraud and bad faith claims by affiliates and customers in connection with their respective agreements, negligence, breach of contract, fraud, consumer protection and other statutory claims asserted by members and guests for alleged injuries sustained at affiliated resorts and vacation rental properties; for its vacation ownership businessbreach of contract, bad faith, conflict of interest, fraud, consumer protection and other statutory claims by property owners associations, owners and prospective owners in connection with the sale or use of VOIs or land, or the management of vacation ownership resorts, construction defect claims relating to vacation ownership units or resorts and negligence, breach of contract, fraud, consumer protection and other statutory claims by guests for alleged injuries sustained at vacation ownership units or resorts; and for each of its businesses, bankruptcy proceedings involving efforts to collect receivables from a debtor in bankruptcy, employment matters involving claims of discrimination, harassment and wage and hour claims, claims of infringement upon third parties intellectual property rights, claims relating to information security, privacy, consumer protection, tax claims and environmental claims.
The Company records an accrual for legal contingencies when it determines, after consultation with outside counsel, that it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. In making such determinations, the Company evaluates, among other things, the degree of probability of an unfavorable outcome and, when it is probable that a liability has been incurred, the Companys ability to make a reasonable estimate of loss. The Company reviews these accruals each reporting period and makes revisions based on changes in facts and circumstances including changes to its strategy in dealing with these matters.
The Company believes that it has adequately accrued for such matters with reserves of $37 million as of March 31, 2012. Such amount is exclusive of matters relating to the Companys separation from its former Parent (Separation). For matters not requiring accrual, the Company believes that such matters will not have a material effect on its results of operations, financial position or cash flows based on information currently available. However, litigation is inherently unpredictable and, although the Company believes that its accruals are adequate and/or that it has valid defenses in these matters, unfavorable results could occur. As such, an adverse outcome from such proceedings for which claims are awarded in excess of the amounts accrued, if any, could be material to the Company with respect to earnings or cash flows in any given reporting period. However, the Company does not believe that the impact of such litigation should result in a material liability to the Company in relation to its consolidated financial position or liquidity.
Under the Separation agreement, the Company agreed to be responsible for 37.5% of certain of Cendants contingent and other corporate liabilities and associated costs, including certain contingent litigation. Since the Separation, Cendant settled the majority of the lawsuits pending on the date of the Separation.
The components of AOCI are as follows:
Currency translation adjustments exclude income taxes related to investments in foreign subsidiaries where the Company intends to reinvest the undistributed earnings indefinitely in those foreign operations.
The Company has a stock-based compensation plan available to grant RSUs, SSARs, PSUs and other stock or cash-based awards to key employees, non-employee directors, advisors and consultants. Under the Wyndham Worldwide Corporation 2006 Equity and Incentive Plan, as amended, a maximum of 36.7 million shares of common stock may be awarded. As of March 31, 2012, 16.2 million shares remained available.
Incentive Equity Awards Granted by the Company
The activity related to incentive equity awards granted by the Company for the three months ended March 31, 2012 consisted of the following:
On March 1, 2012, the Company approved grants of incentive equity awards totaling $51 million to key employees and senior officers of Wyndham in the form of RSUs and SSARs. These awards will vest ratably over a period of four years. In addition, on March 1, 2012, the Company approved a grant of incentive equity awards totaling $12 million to key employees and senior officers of Wyndham in the form of PSUs. These awards cliff vest on the third anniversary of the grant date, contingent upon the Company achieving certain performance metrics. As of March 31, 2012, there were approximately 609,000 PSUs outstanding with an aggregate unrecognized compensation expense of $18 million.
The fair value of SSARs granted by the Company on March 1, 2012 was estimated on the date of the grant using the Black-Scholes option-pricing model with the relevant weighted average assumptions outlined in the table below. Expected volatility is based on both historical and implied volatilities of the Companys stock over the estimated expected life of the SSARs. The expected life represents the period of time the SSARs are expected to be outstanding and is based on historical experience given consideration to the contractual terms and vesting periods of the SSARs. The risk free interest rate is based on yields on U.S. Treasury strips with a maturity similar to the estimated expected life of the SSARs. The projected dividend yield was based on the Companys anticipated annual dividend divided by the price of the Companys stock on the date of the grant.
Stock-Based Compensation Expense
The Company recorded stock-based compensation expense of $10 million and $9 million for the three months ended March 31, 2012 and 2011, respectively, related to the incentive equity awards granted by the Company. The Company recognized a net tax benefit of $4 million during both the three months ended March 31, 2012 and 2011 for stock-based compensation arrangements on the Consolidated Statements of Income. During the three months ended March 31, 2012, the Company increased its pool of excess tax benefits available to absorb tax deficiencies (APIC Pool) by $25 million due to the vesting of RSUs and exercise of stock options. As of March 31, 2012, the Companys APIC Pool balance was $54 million.
The Company paid $41 million and $27 million of taxes for the net share settlement of incentive equity awards during the three months ended March 31, 2012 and 2011, respectively. Such amount is included in other, net within financing activities on the Consolidated Statements of Cash Flows.
The reportable segments presented below represent the Companys operating segments for which separate financial information is available and which is utilized on a regular basis by its chief operating decision maker to assess performance and to allocate resources. In identifying its reportable segments, the Company also considers the nature of services provided by its operating segments. Management evaluates the operating results of each of its reportable segments based upon net revenues and EBITDA, which is defined as net income before depreciation and amortization, interest expense (excluding consumer financing interest), interest income (excluding consumer financing interest) and income taxes, each of which is presented on the Consolidated Statements of Income. The Companys presentation of EBITDA may not be comparable to similarly-titled measures used by other companies.
2010 Restructuring Plan
During 2010, the Company committed to a strategic realignment initiative at its vacation exchange and rentals business targeted at reducing costs, primarily impacting the operations at certain vacation exchange call centers. During the three months ended March 31, 2012, the Company reduced its liability with $1 million of cash payments. The remaining liability of $6 million is expected to be paid in cash; $5 million of facility-related by the first quarter of 2020 and $1 million of personnel-related by the fourth quarter of 2012. As of March 31, 2012, the Company has incurred $16 million of expenses related to the 2010 restructuring plan.
2008 Restructuring Plan
During 2008, the Company committed to various strategic realignment initiatives targeted principally at reducing costs, enhancing organizational efficiency and consolidating and rationalizing existing processes
and facilities. The liability of $3 million, all of which is facility-related, is expected to be paid in cash by December 2013. As of March 31, 2012, the Company has incurred $124 million of expenses related to the 2008 restructuring plan.
The activity related to the restructuring costs is summarized by category as follows:
Transfer of Cendant Corporate Liabilities and Issuance of Guarantees to Cendant and Affiliates
Pursuant to the Separation and Distribution Agreement, upon the distribution of the Companys common stock to Cendant shareholders, the Company entered into certain guarantee commitments with Cendant (pursuant to the assumption of certain liabilities and the obligation to indemnify Cendant and Realogy and travel distribution services (Travelport) for such liabilities) and guarantee commitments related to deferred compensation arrangements with each of Cendant and Realogy. These guarantee arrangements primarily relate to certain contingent litigation liabilities, contingent tax liabilities, and Cendant contingent and other corporate liabilities, of which the Company assumed and is responsible for 37.5% while Realogy is responsible for the remaining 62.5%. The remaining amount of liabilities which were assumed by the Company in connection with the Separation was $44 million and $49 million as of March 31, 2012 and December 31, 2011, respectively. These amounts were comprised of certain Cendant corporate liabilities which were recorded on the books of Cendant as well as additional liabilities which were established for guarantees issued at the date of Separation, related to certain unresolved contingent matters and certain others that could arise during the guarantee period. Regarding the guarantees, if any of the companies responsible for all or a portion of such liabilities were to default in its payment of costs or expenses related to any such liability, the Company would be responsible for a portion of the defaulting party or parties obligation(s). The Company also provided a default guarantee related to certain deferred compensation arrangements related to certain current and former senior officers and directors of Cendant, Realogy and Travelport. These arrangements were valued upon the Separation in accordance with the guidance for guarantees and recorded as liabilities on the Consolidated Balance Sheets. To the extent such recorded liabilities are not adequate to cover the ultimate payment amounts, such excess will be reflected as an expense to the results of operations in future periods.
As a result of the sale of Realogy on April 10, 2007, Realogy was required to post a letter of credit in an amount acceptable to the Company and Avis Budget Group (formally known as Cendant) to satisfy its obligations for the Cendant legacy contingent liabilities. As of March 31, 2012, the letter of credit was $70 million.
As of March 31, 2012, the $44 million of Separation related liabilities is comprised of $37 million for tax liabilities, $3 million for liabilities of previously sold businesses of Cendant, $2 million for other contingent and corporate liabilities and $2 million of liabilities where the calculated guarantee amount exceeded the contingent liability assumed at the Separation Date. In connection with these liabilities, $13 million is recorded in current due to former Parent and subsidiaries and $29 million is recorded in long-term due to former Parent and subsidiaries as of March 31, 2012 on the Consolidated Balance Sheet. The Company will indemnify Cendant for these contingent liabilities and therefore any payments made to the third party would be through the former Parent. The $2 million relating to guarantees is recorded in other current liabilities as of March 31, 2012 on the Consolidated Balance Sheet. The actual timing of payments relating to these
liabilities is dependent on a variety of factors beyond the Companys control. In addition, as of March 31, 2012, the Company had $3 million of receivables due from former Parent and subsidiaries primarily relating to income taxes, which is recorded in other current assets on the Consolidated Balance Sheet. Such receivables totaled $3 million as of December 31, 2011.
Increased Stock Repurchase Program
On April 18, 2012, the Companys Board of Directors increased the authorization for the Companys stock repurchase program by $750 million.
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
This report includes forward-looking statements, as that term is defined by the Securities and Exchange Commission (SEC) in its rules, regulations and releases. Forward-looking statements are any statements other than statements of historical fact, including statements regarding our expectations, beliefs, hopes, intentions or strategies regarding the future. In some cases, forward-looking statements can be identified by the use of words such as may, expects, should, believes, plans, anticipates, estimates, predicts, potential, continue, or other words of similar meaning. Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those discussed in, or implied by, the forward-looking statements. Factors that might cause such a difference include, but are not limited to, general economic conditions, our financial and business prospects, our capital requirements, our financing prospects, our relationships with associates, and those disclosed as risks under Risk Factors in Part II, Item 1A of this report. We caution readers that any such statements are based on currently available operational, financial and competitive information, and they should not place undue reliance on these forward-looking statements, which reflect managements opinion only as of the date on which they were made. Except as required by law, we disclaim any obligation to review or update these forward-looking statements to reflect events or circumstances as they occur.
BUSINESS AND OVERVIEW
We are a global provider of hospitality services and products and operate our business in the following three segments:
RESULTS OF OPERATIONS
Discussed below are our key operating statistics, consolidated results of operations and the results of operations for each of our reportable segments. The reportable segments presented below represent our operating segments for which discrete financial information is available and which is utilized on a regular basis by our chief operating decision maker to assess performance and to allocate resources. In identifying our reportable segments, we also consider the nature of services provided by our operating segments. Management evaluates the operating results of each of our reportable segments based upon net revenues and EBITDA. Our presentation of EBITDA may not be comparable to similarly-titled measures used by other companies.
The following table presents our operating statistics for the three months ended March 31, 2012 and 2011. See Results of Operations section for a discussion as to how these operating statistics affected our business for the periods presented.
THREE MONTHS ENDED MARCH 31, 2012 VS. THREE MONTHS ENDED MARCH 31, 2011
Our consolidated results are as follows:
Net revenues increased $84 million (8.8%) for the three months ended March 31, 2012 compared with the same period last year primarily resulting from:
Such revenue increases were partially offset by a $6 million unfavorable impact from foreign exchange.
Total expenses increased $58 million (7.3%) for the three months ended March 31, 2012 compared with the same period last year principally reflecting (i) $67 million of higher expenses from our operations resulting from the revenue increases and (ii) $7 million of incremental expenses associated with acquisitions, partially offset by the absence of a $13 million non-cash impairment charge in our lodging business recorded during the first quarter of 2011.
Other income, net decreased by $3 million primarily due to the absence of a gain recorded in the first quarter of 2011 resulting from the redemption of a preferred stock investment allocated to us in connection with our separation from Cendant (Separation).
Early extinguishment of debt increased $94 million due to $106 million of costs associated with the early repurchase of a portion of our 9.875% senior unsecured notes and 6.00% senior unsecured notes during the first quarter of 2012 compared with $12 million of costs incurred during the first quarter of 2011 for the early repurchase of a portion of our convertible notes.
Our effective tax rate declined from 37.9% during the first quarter of 2011 to 29.5% during the first quarter of 2012 primarily due to the tax benefit derived from the loss on the early extinguishment of debt.
As a result of these items, net income attributable to Wyndham Worldwide decreased $40 million (55.6%) as compared to the first quarter 2011.
During 2012, we expect:
Following is a discussion of the results of each of our segments and Corporate and Other for the three months ended March 31, 2012 compared to March 31, 2011:
Net revenues increased $36 million (24.2%) and EBITDA increased $22 million (81.5%) during the first quarter of 2012 compared to the same period last year. Excluding the impact of a $13 million non-cash impairment charge during the first quarter of 2011, EBITDA increased $9 million (22.5%) compared to the same period last year.
Royalty, marketing and reservation fees (inclusive of Wyndham Rewards) increased $12 million primarily due to a (i) 7.3% increase in RevPAR resulting primarily from stronger occupancy.
Net revenues were favorably impacted by (i) $8 million from the Wyndham Grand hotel in Orlando, which opened in the fourth quarter of 2011, and (ii) $4 million due to a higher licensing fee charged primarily to our vacation ownership business for the use of the Wyndham trademark.
Net revenues also reflects a $10 million increase due to a change in classification to revenues from operating expenses, which were primarily related to third-party reservation fees. This change in classification had no impact on EBITDA.
In addition, EBITDA was also unfavorably impacted by (i) $11 million of higher marketing and reservation expenses (inclusive of Wyndham Rewards) resulting primarily from higher revenues, and (ii) $6 million of costs associated with the Wyndham Grand hotel in Orlando.
As of March 31, 2012, we had approximately 7,150 properties and 609,300 rooms in our system.
Additionally, our hotel development pipeline included approximately 840 hotels and 108,200 rooms, of which 55% were international and 56% were new construction as of March 31, 2012.
We expect net revenues of approximately $835 million to $875 million during 2012. In addition, as compared to 2011, we expect our operating statistics during 2012 to perform as follows:
Vacation Exchange and Rentals
Net revenues and EBITDA increased $5 million (1.4%) and $2 million (2.2%), respectively, during the first quarter of 2012 compared with the first quarter of 2011. A stronger U.S. dollar compared to other foreign currencies unfavorably impacted net revenues and EBITDA by $6 million and $1 million, respectively.
Acquisitions completed during the third quarter of 2011 contributed $12 million of incremental net revenues (inclusive of $3 million of ancillary revenues) and $5 million of incremental EBITDA.
Excluding the impact of $9 million of incremental vacation rental revenues from acquisitions and the unfavorable impact of foreign exchange movements of $4 million, net revenues generated from rental transactions and related services increased $4 million primarily due to a 2.4% increase in rental transaction volume. The increase in rental transaction volume resulted from growth at our Novasol, Landal GreenParks and ResortQuest businesses, partially offset by a decline in volume at our Hoseasons Group business in the U.K. Average net price per vacation rental remained flat.
Exchange and related service revenues, which primarily consist of fees generated from memberships, exchange transactions, member-related rentals and other member servicing, decreased $6 million. Excluding $2 million of an unfavorable impact from foreign exchange movements, exchange and related service revenues declined $4 million primarily reflecting the impact of a 2.2% decline in average number of members due to the non-renewal of an affiliation agreement. Exchange revenue per member remained flat.
EBITDA further reflects (i) a favorable impact from value-added taxes of $4 million and (ii) a $2 million benefit related to the reversal of an allowance associated with a previously divested asset. Such favorability was partially offset by (i) $3 million of higher marketing costs and (ii) the unfavorable impact of $2 million from foreign exchange transactions and foreign exchange hedging contracts.
We expect net revenues of approximately $1.44 billion to $1.51 billion during 2012. In addition, as compared to 2011, we expect our operating statistics during 2012 to perform as follows:
Net revenues and EBITDA increased $51 million (11.3%) and $6 million (6.2%), respectively, during the first quarter of 2012 compared with the first quarter of 2011.
Gross sales of VOIs, net of WAAM sales increased $66 million (21.7%) driven principally by a 10.1% increase in VPG and an 8.0% increase in tour flow. The increase in VPG is attributable to higher pricing and improved close rates resulting from our credit pre-screening program, while the change in tour flow reflects our focus on marketing programs directed towards new owner generation. Our provision for loan losses increased $17 million primarily as a result of higher gross VOI sales and limited improvement in our portfolio performance.
Net revenues and EBITDA generated by WAAM increased by $2 million and $1 million, respectively, due to increased commissions resulting from a shift in the mix of sales to new WAAM deals.
Net revenues and EBITDA from consumer financing were flat compared to the same period in the prior year. Net interest income margin remained flat versus the first quarter of 2011 due to (i) a reduction in our weighted average interest rate on our securitized debt to 5.0% from 6.0% and (ii) higher weighted average interest rates earned on our contract receivable portfolio, offset by $135 million of increased average borrowings on our securitized debt facilities.
In addition to the items discussed above, EBITDA was unfavorably impacted by increased expenses primarily resulting from:
We expect net revenues of approximately $2.15 billion to $2.23 billion during 2012. In addition, as compared to 2011, we expect our operating statistics during 2012 to perform as follows:
Corporate and Other
Corporate and Other revenues decreased $8 million for the three months ended March 31, 2012 compared to the same period last year resulting from the elimination of intersegment revenues primarily due to the license fee charged between the Lodging and Vacation Ownership segments for use of the Wyndham trademark.
Corporate EBITDA decreased $7 million for the three months ended March 31, 3012 compared to the same period last year. Corporate EBITDA included $4 million and $11 million of a net benefit during the three months ended March 31, 2012 and 2011, respectively, related to the resolution of and adjustment to certain contingent liabilities and assets. Excluding the impact of these net benefits, corporate EBITDA was flat.
We expect corporate expenses of approximately $93 million to $100 million during 2012, consistent with 2011.
2010 Restructuring Plan
During 2010, we committed to a strategic realignment initiative at our vacation exchange and rentals business targeted at reducing costs, primarily impacting the operations at certain vacation exchange call centers. During the three months ended March 31, 2012, we reduced our liability with $1 million of cash payments. The remaining liability of $6 million is expected to be paid in cash; $5 million of facility-related over the remaining lease term which expires in the first quarter of 2020 and $1 million of personnel-related by the fourth quarter of 2012. We anticipate annual net savings from such initiative of $8 million.
2008 Restructuring Plan
During 2008, we committed to various strategic realignment initiatives targeted principally at reducing costs, enhancing organizational efficiency, reducing our need to access the asset-backed securities market and consolidating and rationalizing existing processes and facilities. The liability of $3 million, all of which is facility-related, is expected to be paid in cash by December 2013.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
Total assets increased $349 million from December 31, 2011 to March 31, 2012 primarily due to:
Such increases were partially offset by a $46 million decrease in vacation ownership contract receivables, net primarily due to principal collections exceeding net loan originations and a $23 million decrease in inventory primarily due to VOI sales.
Total liabilities increased $457 million from December 31, 2011 to March 31, 2012 primarily due to:
Such increases were partially offset by a $70 million decrease in accrued expenses and other current liabilities primarily due to the payment of accrued employee incentive costs.
Total equity decreased $108 million from December 31, 2011 to March 31, 2012 primarily due to:
Such decreases were partially offset by:
LIQUIDITY AND CAPITAL RESOURCES
Currently, our financing needs are supported by cash generated from operations and borrowings under our revolving credit facility. In addition, certain funding requirements of our vacation ownership business are met through the utilization of our bank conduit facility and the issuance of securitized debt to finance vacation ownership contract receivables. We believe that our net cash from operations, cash and cash equivalents, access to our revolving credit facility and continued access to the securitization and debt markets provide us with sufficient liquidity to meet our ongoing needs.
We may, from time to time, depending on market conditions and other factors, repurchase our outstanding indebtedness, whether or not such indebtedness trades above or below its face amount, for cash and/or in exchange for other securities or other consideration, in each case in open market purchases and/or privately negotiated transactions.
During the three months ended March 31, 2012 and 2011, we had a net change in cash and cash equivalents of $97 million and $18 million, respectively. The following table summarizes such changes:
During the three months ended March 31, 2012, net cash provided by operating activities decreased $1 million compared to the three months ended March 31, 2011, which principally reflects $44 million of higher cash utilized for working capital (net change in assets and liabilities), offset by an increase in cash income (net income plus non-cash adjustments excluding changes in working capital) of $43 million resulting from stronger operating performance.
Cash utilized for working capital resulted primarily from:
Such utilization was partially offset by $22 million of lower cash used for inventory purchases and separation liabilities.
During the three months ended March 31, 2012, net cash used in investing activities increased $19 million as compared to the three months ended March 31, 2011, principally reflecting the absence of $18 million in proceeds from asset sales primarily related to the redemption of a preferred stock investment during 2011 allocated to us in connection with the Separation.
During the three months ended March 31, 2012, net cash used in financing activities decreased $99 million compared to the three months ended March 31, 2011, which principally reflects $696 million of higher proceeds from issuance of notes, partially offset by:
Senior Unsecured Notes. During the first quarter of 2012, we issued senior unsecured debt for net proceeds of $941 million. We utilized the proceeds from these debt issuances to repurchase a portion of our outstanding 9.875% senior unsecured notes and 6.00% senior unsecured notes, to repay borrowings under the revolving credit facility and for general corporate purposes. For further detailed information about such borrowings, see Note 5 Long-Term Debt and Borrowing Arrangements.
We are focusing on optimizing cash flow and seeking to deploy capital for the highest possible returns. Ultimately, our business objective is to grow our business while transforming our cash and earnings profile by rebalancing our cash streams to achieve a greater proportion of EBITDA from our fee-for-service businesses. We intend to continue to invest in select capital and technological improvements across our business. In addition, we may seek to acquire additional franchise agreements, hotel/property management contracts and exclusive agreements for vacation rental properties on a strategic and selective basis, either directly or through investments in joint ventures.
During the three months ended March 31, 2012, we spent $35 million on capital expenditures, equity investments and development advances primarily on information technology enhancement projects and renovations of bungalows at our Landal GreenParks business. During 2012, we anticipate spending approximately $195 million to $210 million on capital expenditures, equity investments and development advances. Additionally, in an effort to support growth in the Wyndham Hotels and Resorts brand, we plan on investing in mezzanine financing and providing other financial support over the next several years.
In addition, we spent $7 million relating to vacation ownership development projects (inventory) during the three months ended March 31, 2012. We anticipate spending on average approximately $150 million annually from 2011 through 2015 on vacation ownership development projects (approximately $110 million to $120 million during 2012), including projects currently under development. We believe that our vacation ownership business currently has adequate finished inventory on our balance sheet to support vacation ownership sales. After factoring in the anticipated additional average spending of approximately $150 million annually from 2011 through 2015, we expect to have adequate inventory through at least the next 4 to 5 years.
We expect that the majority of the expenditures that will be required to pursue our capital spending programs, strategic investments and vacation ownership development projects will be financed with cash flow generated through operations. Additional expenditures are financed with general unsecured corporate borrowings, including through the use of available capacity under our revolving credit facility.
Share Repurchase Program
We expect to generate annual net cash provided by operating activities less capital expenditures, equity investments and development advances in the range of approximately $600 million to $700 million in 2012. A portion of this cash flow is expected to be returned to our shareholders in the form of share repurchases. On August 20, 2007, our Board of Directors (the Board) authorized a stock repurchase program that enabled us to purchase our common stock. The Board has since authorized four increases to the repurchase program, most recently on April 18, 2012 for $750 million, bringing the total authorization under our current program to $2.25 billion.
During the first quarter of 2012, we repurchased 3.6 million shares at an average price of $42.05 for a cost of $150 million and repurchase capacity increased $12 million from proceeds received from stock option exercises. Such repurchase capacity will continue to be increased by proceeds received from future stock option exercises. From August 20, 2007 through March 31, 2012, we repurchased 43.7 million shares at an average price of $30.83 for a cost of $1.3 billion and repurchase capacity increased $76 million from proceeds received from stock option exercises.
During the period April 1, 2012 through April 24, 2012, we repurchased an additional 850,000 shares at an average price of $46.85 for a cost of $40 million. We currently have $940 million remaining availability in our program. The amount and timing of specific repurchases are subject to market conditions, applicable legal requirements and other factors. Repurchases may be conducted in the open market or in privately negotiated transactions.
During the first quarter of 2012, we paid a quarterly dividend of $0.23 per share of common stock issued and outstanding on the record date for the applicable dividend. Our dividend payout ratio is now approximately 32% of the midpoint of our estimated 2012 net income after certain adjustments.
Our dividend policy for the future is to grow our dividend at least at the rate of growth of our earnings. The declaration and payment of future dividends to holders of our common stock are at the discretion of our Board of Directors and depend upon many factors, including our financial condition, earnings, capital requirements of our business, covenants associated with certain debt obligations, legal requirements, regulatory constraints, industry practice and other factors that our Board deems relevant. There is no assurance that a payment of a dividend will occur in the future.
3.50% Convertible Notes
During May 2009, we issued convertible notes (Convertible Notes) with face value of $230 million and bearing interest at a rate of 3.50%. The remaining face value of the Convertible Notes was $12 million as of March 31, 2012. Concurrent with such issuance, we purchased cash-settled call options (Call Options) and entered into warrant transactions (Warrants). The agreements for such transactions contain anti-dilution provisions that require certain adjustments to be made as a result of all quarterly cash dividend increases above $0.04 per share that occur prior to the maturity date of the Convertible Notes, Call Options and Warrants. We have increased our quarterly dividend three times, most recently to $0.23 per share during March 2012. As a result of the dividend increases and required adjustments, as of March 31, 2012, the Convertible Notes had a conversion reference rate of 81.0414 shares of common stock per $1,000 principal amount (equivalent to a conversion price of $12.34 per share of our common stock), the conversion price of the Call Options was $12.34 and the exercise price of the Warrants was $19.54. The number of shares related to the remaining Warrants was approximately 1 million as of March 31, 2012.
Long-Term Debt Covenants
The revolving credit facility is subject to covenants including the maintenance of specific financial ratios. The financial ratio covenants consist of a minimum consolidated interest coverage ratio of at least 3.0 to 1.0 as of the measurement date and a maximum consolidated leverage ratio not to exceed 3.75 to 1.0 as of the measurement date. The consolidated interest coverage ratio is calculated by dividing consolidated EBITDA (as defined in the credit agreement) by consolidated interest expense (as defined in the credit agreement), both as measured on a trailing 12 month basis preceding the measurement date. As of March 31, 2012, our consolidated interest coverage ratio was 8.4 times. Consolidated interest expense excludes, among other things, interest expense on any securitization indebtedness (as defined in the credit agreement). The consolidated leverage ratio is calculated by dividing consolidated total indebtedness (as defined in the credit agreement and which excludes, among other things, securitization indebtedness) as of the measurement date by consolidated EBITDA as measured on a trailing 12 month basis preceding the measurement date. As of March 31, 2012, our consolidated leverage ratio was 2.3 times. Covenants in this credit facility also include limitations on indebtedness of material subsidiaries; liens; mergers, consolidations, liquidations and dissolutions; sale of all or substantially all assets; and sale and leaseback transactions. Events of default in this credit facility include failure to pay interest, principal and fees when due; breach of a covenant or warranty; acceleration of or failure to pay other debt in excess of $50 million (excluding securitization indebtedness); insolvency matters; and a change of control.
All of our senior unsecured notes contain various covenants including limitations on liens, limitations on potential sale and leaseback transactions and change of control restrictions. In addition, there are limitations on mergers, consolidations and potential sale of all or substantially all of our assets. Events of default in the notes include failure to pay interest and principal when due, breach of a covenant or warranty, acceleration of other debt in excess of $50 million and insolvency matters. The convertible notes do not contain affirmative or negative covenants, however, the limitations on mergers, consolidations and potential sale of all or substantially all of our assets and the events of default for our senior unsecured notes are applicable to such notes. Holders of the convertible notes have the right to require us to repurchase the convertible notes at 100% of principal plus accrued and unpaid interest in the event of a fundamental change, defined to include, among other things, a change of control, certain recapitalizations and if our common stock is no longer listed on a national securities exchange.
As of March 31, 2012, we were in compliance with all of the financial covenants described above.
Each of our non-recourse, securitized term notes and the bank conduit facility contain various triggers relating to the performance of the applicable loan pools. If the vacation ownership contract receivables pool that collateralizes one of our securitization notes fails to perform within the parameters established by the contractual triggers (such as higher default or delinquency rates), there are provisions pursuant to which the cash flows for that pool will be maintained in the securitization as extra collateral for the note holders or applied to accelerate the repayment of outstanding principal to the note holders. As of March 31, 2012, all of our securitized loan pools were in compliance with applicable contractual triggers.
Our vacation ownership business finances certain of its receivables through (i) an asset-backed bank conduit facility and (ii) periodically accessing the capital markets by issuing asset-backed securities. None of the currently outstanding asset-backed securities contains any recourse provisions to us other than interest rate risk related to swap counterparties (solely to the extent that the amount outstanding on our notes differs from the forecasted amortization schedule at the time of issuance).
We believe that our bank conduit facility, with a term through June 2013 and capacity of $600 million, combined with our ability to issue term asset-backed securities, should provide sufficient liquidity for our expected sales pace and we expect to have available liquidity to finance the sale of VOIs.
Our $1.0 billion five-year revolving credit agreement, which expires in July 2016, contains a provision that is a condition of an extension of credit. The provision, which was standard market practice for issuers of our rating and industry at the time of our revolver renewal, allows the lenders to withhold an extension of credit if the representations and warranties we made at the time we executed the revolving credit facility agreement are not true and correct in all material respects at the time of request of the extension for credit including if a development or event has or would reasonably be expected to have a material adverse effect on our business, assets, operations or condition, financial or otherwise. The application of the material adverse effect provision contains exclusions for the impact resulting from disruptions in, or the inability of companies engaged in businesses similar to those engaged in by us and our subsidiaries to consummate financings in, the asset backed securities or conduit market.
We primarily utilize surety bonds at our vacation ownership business for sales and development transactions in order to meet regulatory requirements of certain states. In the ordinary course of our business, we have assembled commitments from twelve surety providers in the amount of $1.2 billion, of which we had $307 million outstanding as of March 31, 2012. The availability, terms and conditions, and pricing of such bonding capacity is dependent on, among other things, continued financial strength and stability of the insurance company affiliates providing such bonding capacity, the general availability of such capacity and our corporate credit rating. If such bonding capacity is unavailable, or alternatively, if the terms and conditions and pricing of such bonding capacity are unacceptable to us, our vacation ownership business could be negatively impacted.
Our liquidity position may also be negatively affected by unfavorable conditions in the capital markets in which we operate or if our vacation ownership contract receivables portfolios do not meet specified portfolio credit parameters. Our liquidity as it relates to our vacation ownership contract receivables securitization program could be adversely affected if we were to fail to renew or replace our conduit facility on its expiration date, or if a particular receivables pool were to fail to meet certain ratios, which could occur in certain instances if the default rates or other credit metrics of the underlying vacation ownership contract receivables deteriorate. Our ability to sell securities backed by our vacation ownership contract receivables depends on the continued ability and willingness of capital market participants to invest in such securities.
As of March 31, 2012, we had $496 million of availability under our asset-backed bank conduit facility. Any disruption to the asset-backed or commercial paper markets could adversely impact our ability to obtain such financings.
Our senior unsecured debt is rated BBB- with a stable outlook by Standard and Poors and Baa3 with a stable outlook by Moodys Investors Service. A security rating is not a recommendation to buy, sell or hold securities and is subject to revision or withdrawal by the assigning rating organization. Reference in this report to any such credit rating is intended for the limited purpose of discussing or referring to aspects of our liquidity and of our costs of funds. Any reference to a credit rating is not intended to be any guarantee or assurance of, nor should there be any undue reliance upon, any credit rating or change in credit rating, nor is any such reference intended as any inference concerning future performance, future liquidity or any future credit rating.
We experience seasonal fluctuations in our net revenues and net income from our franchise and management fees, commission income earned from renting vacation properties, annual subscription fees or annual membership dues, as applicable, and exchange and member-related transaction fees and sales of VOIs. Revenues from franchise and management fees are generally higher in the second and third quarters than in the first or fourth quarters, because of increased leisure travel during the summer months. Revenues from vacation rentals are generally highest in the third quarter, when vacation rentals are highest. Revenues from vacation exchange and member-related transaction fees are generally highest in the first quarter, which is generally when members of our vacation exchange business plan and book their vacations for the year. Revenues from sales of VOIs are generally higher in the second and third quarters than in other quarters. The seasonality of our business may
cause fluctuations in our quarterly operating results. As we expand into new markets and geographical locations, we may experience increased or different seasonality dynamics that create fluctuations in operating results different from the fluctuations we have experienced in the past.
The following table summarizes our future contractual obligations for the twelve month periods set forth below:
CRITICAL ACCOUNTING POLICIES
In presenting our financial statements in conformity with generally accepted accounting principles, we are required to make estimates and assumptions that affect the amounts reported therein. Several of the estimates and assumptions we are required to make relate to matters that are inherently uncertain as they pertain to future events. However, events that are outside of our control cannot be predicted and, as such, they cannot be contemplated in evaluating such estimates and assumptions. If there is a significant unfavorable change to current conditions, it could result in a material adverse impact to our consolidated results of operations, financial position and liquidity. We believe that the estimates and assumptions we used when preparing our financial statements were the most appropriate at that time. These Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements included in the Annual Report filed on Form 10-K with the SEC on February 17, 2012, which includes a description of our critical accounting policies that involve subjective and complex judgments that could potentially affect reported results. While there have been no material changes to our critical accounting policies as to the methodologies or assumptions we apply under them, we continue to monitor such methodologies and assumptions.
Item 3. Quantitative and Qualitative Disclosures About Market Risks.
We assess our market risk based on changes in interest and foreign currency exchange rates utilizing a sensitivity analysis that measures the potential impact in earnings, fair values and cash flows based on a hypothetical 10% change (increase and decrease) in interest and foreign currency rates. We used March 31, 2012 market rates to perform a sensitivity analysis separately for each of our market risk exposures. The estimates assume instantaneous, parallel shifts in interest rate yield curves and exchange rates. We have determined, through such analyses, that the impact of a 10% change in interest and foreign currency exchange rates and prices on our earnings, fair values and cash flows would not be material.
Item 4. Controls and Procedures.
PART II OTHER INFORMATION
Item 1. Legal Proceedings.
We are involved in various claims and lawsuits arising in the ordinary course of business, none of which, in the opinion of management, is expected to have a material adverse effect on our results of operations or financial condition. See Note 10 to the Consolidated Financial Statements for a description of claims and legal actions arising in the ordinary course of our business.
Item 1A. Risk Factors.
Before you invest in our securities you should carefully consider each of the following risk factors and all of the other information provided in this report. We believe that the following information identifies the most significant risks that may impact us. However, the risks and uncertainties we face are not limited to those set forth in the risk factors described below. Additional risks and uncertainties not presently known to us or that we currently believe to be immaterial may also adversely affect our business. In addition, past financial performance may not be a reliable indicator of future performance and historical trends should not be used to anticipate results or trends in future periods. If any of the following risks and uncertainties develops into an actual event, the event could have a material effect on our business, financial condition or results of operations. In such case, the market price of our common stock could decline.
The hospitality industry is highly competitive and we are subject to risks relating to competition that may adversely affect our performance.
We will be adversely impacted if we cannot compete effectively in the highly competitive hospitality industry. Our continued success depends upon our ability to compete effectively in markets that contain numerous competitors, some of which may have significantly greater financial, marketing and other resources than we have. Competition may reduce fee structures, potentially causing us to lower our fees or prices, which may adversely impact our profits. New competition or existing competition that uses a business model that is different from our business model may put pressure on us to change our model so that we can remain competitive.
Our revenues are highly dependent on the travel industry and declines in or disruptions to the travel industry, such as those caused by economic slowdown, terrorism, political strife, acts of God and war may adversely affect us.
Declines in or disruptions to the travel industry may adversely impact us. Risks affecting the travel industry include: economic slowdown and recession; economic factors, such as increased costs of living and reduced discretionary income, adversely impacting consumers and businesses decisions to use and consume travel
services and products; terrorist incidents and threats (and associated heightened travel security measures); political strife; acts of God (such as earthquakes, hurricanes, fires, floods, volcanoes and other natural disasters); war; pandemics or threat of pandemics (such as the H1N1 flu); environmental disasters (such as the Gulf of Mexico oil spill); increased pricing, financial instability and capacity constraints of air carriers; airline job actions and strikes; and increases in gasoline and other fuel prices.
We are subject to operating or other risks common to the hospitality industry.
Our business is subject to numerous operating or other risks common to the hospitality industry including:
We may not be able to achieve our growth objectives.
We may not be able to achieve our growth objectives for increasing our cash flows, the number of franchised and/or managed properties in our lodging business, the number of vacation exchange members in our vacation exchange business, the number of rental weeks sold by our vacation rentals business and the number of tours generated and vacation ownership interests sold by our vacation ownership business.
We may be unable to identify acquisition targets that complement our businesses, and if we are able to identify suitable acquisition targets, we may not be able to complete acquisitions on commercially reasonable terms. Our ability to complete acquisitions depends on a variety of factors, including our ability to obtain financing on acceptable terms and requisite government approvals. If we are able to complete acquisitions, there is no assurance that we will be able to achieve the revenue and cost benefits that we expected in connection with such acquisitions or to successfully integrate the acquired businesses into our existing operations.
Our international operations are subject to risks not generally applicable to our domestic operations.
Our international operations are subject to numerous risks including exposure to local economic conditions; potential adverse changes in the diplomatic relations of foreign countries with the U.S.; hostility from local
populations; restrictions and taxes on the withdrawal of foreign investment and earnings; government policies against businesses owned by foreigners; investment restrictions or requirements; diminished ability to legally enforce our contractual rights in foreign countries; foreign exchange restrictions; fluctuations in foreign currency exchange rates; local laws might conflict with U.S. laws; withholding and other taxes on remittances and other payments by subsidiaries; and changes in and application of foreign taxation structures including value-added taxes.
Any adverse outcome resulting from the financial instability within certain European economies and the related volatility on foreign exchange and interest rates could have an effect on our results of operations, financial position or cash flows.
We are subject to risks related to litigation filed by or against us.
We are subject to a number of legal actions and the risk of future litigation as described under Legal Proceedings. We cannot predict with certainty the ultimate outcome and related damages and costs of litigation and other proceedings filed by or against us. Adverse results in litigation and other proceedings may harm our business.
We are subject to certain risks related to our indebtedness, hedging transactions, our securitization of certain of our assets, our surety bond requirements, the cost and availability of capital and the extension of credit by us.
We are a borrower of funds under our credit facilities, credit lines, senior notes and securitization financings. We extend credit when we finance purchases of vacation ownership interests and in instances when we provide key money, development advance notes and mezzanine or other forms of subordinated financing to assist franchisees and hotel owners in converting to or building a new hotel branded under one of our Wyndham Hotel Group brands. We use financial instruments to reduce or hedge our financial exposure to the effects of currency and interest rate fluctuations. We are required to post surety bonds in connection with our development activities. In connection with our debt obligations, hedging transactions, the securitization of certain of our assets, our surety bond requirements, the cost and availability of capital and the extension of credit by us, we are subject to numerous risks including:
Economic conditions affecting the hospitality industry, the global economy and credit markets generally may adversely affect our business and results of operations, our ability to obtain financing and/or securitize our receivables on reasonable and acceptable terms, the performance of our loan portfolio and the market price of our common stock.
The future economic environment for the hospitality industry and the global economy may continue to be challenged. The hospitality industry has experienced and may continue to experience significant downturns in connection with, or in anticipation of, declines in general economic conditions. The current economy has been characterized by higher unemployment, lower family income, lower business investment and lower consumer spending, leading to lower demand for hospitality services and products. Declines in consumer and commercial spending may adversely affect our revenues and profits.
Uncertainty in the equity and credit markets may negatively affect our ability to access short-term and long-term financing on reasonable terms or at all, which would negatively impact our liquidity and financial condition. In addition, if one or more of the financial institutions that support our existing credit facilities fails, we may not be able to find a replacement, which would negatively impact our ability to borrow under the credit facilities. Disruptions in the financial markets may adversely affect our credit rating and the market value of our common stock. If we are unable to refinance, if necessary, our outstanding debt when due, our results of operations and financial condition will be materially and adversely affected.
While we believe we have adequate sources of liquidity to meet our anticipated requirements for working capital, debt service and capital expenditures for the foreseeable future, if our cash flow or capital resources prove inadequate we could face liquidity problems that could materially and adversely affect our results of operations and financial condition.
Our liquidity as it relates to our vacation ownership contract receivables securitization program could be adversely affected if we were to fail to renew or replace our securitization warehouse conduit facility on its renewal date or if a particular receivables pool were to fail to meet certain ratios, which could occur in certain instances if the default rates or other credit metrics of the underlying vacation ownership contract receivables deteriorate. Our ability to sell securities backed by our vacation ownership contract receivables depends on the continued ability and willingness of capital market participants to invest in such securities. It is possible that asset-backed securities issued pursuant to our securitization programs could in the future be downgraded by
credit agencies. If a downgrade occurs, our ability to complete other securitization transactions on acceptable terms or at all could be jeopardized, and we could be forced to rely on other potentially more expensive and less attractive funding sources, to the extent available, which would decrease our profitability and may require us to adjust our business operations accordingly, including reducing or suspending our financing to purchasers of vacation ownership interests.
Our businesses are subject to extensive regulation and the cost of compliance or failure to comply with such regulations may adversely affect us.
Our businesses are heavily regulated by federal, state and local governments in the countries in which our operations are conducted. In addition, domestic and foreign federal, state and local regulators may enact new laws and regulations that may reduce our revenues, cause our expenses to increase and/or require us to modify substantially our business practices. If we are not in compliance with applicable laws and regulations, including, among others, those governing franchising, timeshare, lending, information security and data privacy, marketing and sales, unfair and deceptive trade practices, telemarketing, licensing, labor, employment, health care, health and safety, accessibility, immigration, gaming, environmental (including climate change), and regulations applicable under the Office of Foreign Asset Control and the Foreign Corrupt Practices Act (and local equivalents in international jurisdictions), we may be subject to regulatory investigations or actions, fines, penalties and potential criminal prosecution.
We are subject to risks related to corporate responsibility.
Many factors influence our reputation and the value of our brands including perceptions of us held by our key stakeholders and the communities in which we do business. Businesses face increasing scrutiny of the social and environmental impact of their actions and there is a risk of damage to our reputation and the value of our brands if we fail to act responsibly or comply with regulatory requirements in a number of areas such as safety and security, sustainability, responsible tourism, environmental management, human rights and support for local communities.
We are dependent on our senior management.
We believe that our future growth depends, in part, on the continued services of our senior management team. Losing the services of any members of our senior management team could adversely affect our strategic and customer relationships and impede our ability to execute our business strategies.
Our inability to adequately protect and maintain our intellectual property could adversely affect our business.
Our inability to adequately protect and maintain our trademarks, trade dress and other intellectual property rights could adversely affect our business. We generate, maintain, utilize and enforce a substantial portfolio of trademarks, trade dress and other intellectual property that are fundamental to the brands that we use in all of our businesses. There can be no assurance that the steps we take to protect our intellectual property will be adequate. Any event that materially damages the reputation of one or more of our brands could have an adverse impact on the value of that brand and subsequent revenues from that brand. The value of any brand is influenced by a number of factors, including consumer preference and perception and our failure to ensure compliance with brand standards.
Disasters, disruptions and other impairment of our information technologies and systems could adversely affect our business.
Any disaster, disruption or other impairment in our technology capabilities could harm our business. Our businesses depend upon the use of sophisticated information technologies and systems, including technology and systems utilized for reservation systems, vacation exchange systems, hotel/property management,
communications, procurement, member record databases, call centers, operation of our loyalty programs and administrative systems. The operation, maintenance and updating of these technologies and systems are dependent upon internal and third-party technologies, systems and services for which there are no assurances of uninterrupted availability or adequate protection.
Failure to maintain the security of personally identifiable and other information, non-compliance with our contractual or other legal obligations regarding such information, or a violation of the Companys privacy and security policies with respect to such information, could adversely affect us.
In connection with our business, we and our service providers collect and retain significant volumes of certain types of personally identifiable and other information pertaining to our customers, stockholders and employees. The legal, regulatory and contractual environment surrounding information security and privacy is constantly evolving and the hospitality industry is under increasing attack by cyber-criminals in the U.S. and other jurisdictions in which we operate. A significant actual or potential theft, loss, fraudulent use or misuse of customer, stockholder, employee or our data by cybercrime or otherwise, non-compliance with our contractual or other legal obligations regarding such data or a violation of our privacy and security policies with respect to such data could adversely impact our reputation and could result in significant costs, fines, litigation or regulatory action against us.
The market price of our shares may fluctuate.
The market price of our common stock may fluctuate depending upon many factors, some of which may be beyond our control, including our quarterly or annual earnings or those of other companies in our industry; actual or anticipated fluctuations in our operating results due to seasonality and other factors related to our business; changes in accounting principles or rules; announcements by us or our competitors of significant acquisitions or dispositions; the failure of securities analysts to cover our common stock; changes in earnings estimates by securities analysts or our ability to meet those estimates; the operating and stock price performance o