Remote Work, Alternative Lodging And High Debt Will Undermine Profitability

Key Takeaways

• Shifts in work trends and alternative lodging are weakening hotel demand, eroding pricing power, and exposing persistent revenue challenges.
  
• High tenant concentration and debt burdens heighten earnings volatility and limit financial flexibility amid rising costs and refinancing hurdles.
  
• Strategic shift to a net lease REIT model, asset optimization, and deleveraging are set to stabilize cash flow, improve margins, and strengthen long-term shareholder returns.

Catalysts

SVC is a real estate investment trust with over $11 billion invested in two asset categories: hotels and service-focused retail net lease properties.

• The company's future revenue growth is at risk due to the accelerating adoption of remote and hybrid work, which continues to reduce corporate travel demand and suppress traditional hotel occupancy rates. This ongoing shift is likely to leave Service Properties Trust with persistent top-line weakness, especially as group and contract segments fail to offset weakness in transient business.
  
• Expansion of alternative lodging options such as Airbnb and Vrbo is expected to intensify, pulling demand away from traditional hotel stays and eroding both the occupancy rate and pricing power for Service Properties Trust's hotel and net lease assets, leading to downward pressure on average daily rates and overall revenue per available room.
  
• Heavy reliance on key tenants, notably TravelCenters of America and Sonesta, raises the risk of revenue disruption from tenant defaults or lease renegotiations. This concentration problem will become more acute if net lease operators, particularly in sectors facing structural challenges, encounter financial stress, driving up lease volatility and undermining earnings predictability.
  
• Elevated leverage and substantial upcoming debt maturities create a major overhang for net income and cash flows, especially if the company faces higher refinancing costs in a tightening capital market. The current debt service coverage ratio is already breaching covenants, which severely limits financial flexibility and could result in ongoing interest expense drag and restricted access to additional capital.
  
• Rising labor costs, regulatory scrutiny over climate change, and increased maintenance and capital expenditure requirements-exacerbated by the need for constant renovation-are expected to keep net operating margins under pressure. This structural increase in cost base may not be offset by revenue growth, resulting in sustained net margin compression for Service Properties Trust over the long term.

Service Properties Trust Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Service Properties Trust compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Service Properties Trust's revenue will decrease by 8.2% annually over the next 3 years.
• The bearish analysts are not forecasting that Service Properties Trust will become profitable in next 3 years. To represent the Analyst Price Target as a Future PE Valuation we will estimate Service Properties Trust's profit margin will increase from -14.7% to the average US Hotel and Resort REITs industry of 3.7% in 3 years.
• If Service Properties Trust's profit margin were to converge on the industry average, you could expect earnings to reach $53.3 million (and earnings per share of $0.32) by about September 2028, up from $-277.9 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 8.9x on those 2028 earnings, up from -1.6x today. This future PE is lower than the current PE for the US Hotel and Resort REITs industry at 29.8x.
• Analysts expect the number of shares outstanding to grow by 0.13% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 12.32%, as per the Simply Wall St company report.

Service Properties Trust Future Earnings Per Share Growth

Risks

• Service Properties Trust is executing a strategic transformation toward a predominantly net lease REIT model, which is expected to provide more stable and predictable cash flows with long-term leases and annual escalators, reducing revenue volatility and supporting long-term earnings growth.
  
• The company has successfully negotiated the sale of over 100 lower-performing hotels and is retaining higher-quality, leisure-oriented and urban properties where recent renovations have already shown double-digit revenue growth, indicating that retained asset performance and net margins may improve.
  
• SVC's net lease portfolio is highly diversified across 742 properties and 174 tenants, with a 97% occupancy rate and strong rent coverage ratios, suggesting reduced tenant concentration risk and more resilient rental income streams, which could buoy overall revenue and cash flow stability.
  
• Significant deleveraging is expected as proceeds from hotel sales are used to pay down near-term maturities, and capital expenditures are trending downward, positioning the company for improved credit metrics, lower interest expense, and higher net earnings in the coming years.
  
• Capital investments in retained hotels, coupled with completion of major planned renovations, are projected to drive ongoing EBITDA growth and reduce future capital needs, likely resulting in higher free cash flow and enhanced long-term returns for shareholders.

Valuation

• The assumed bearish price target for Service Properties Trust is $2.0, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of Service Properties Trust's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $3.0, and the most bearish reporting a price target of just $2.0.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $1.5 billion, earnings will come to $53.3 million, and it would be trading on a PE ratio of 8.9x, assuming you use a discount rate of 12.3%.
• Given the current share price of $2.73, the bearish analyst price target of $2.0 is 36.5% lower.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.