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IILG > SEC Filings for IILG > Form 10-Q on 7-May-2013All Recent SEC Filings

Show all filings for INTERVAL LEISURE GROUP, INC. | Request a Trial to NEW EDGAR Online Pro

Form 10-Q for INTERVAL LEISURE GROUP, INC.


7-May-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Cautionary Statement Regarding Forward-Looking Information

This quarterly report on Form 10-Q contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. The use of words such as "anticipates," "estimates," "expects," "intends," "plans" and "believes," and similar expressions or future or conditional verbs such as "will," "should," "would," "may" and "could" among others, generally identify forward-looking statements. These forward-looking statements include, among others, statements relating to: our future financial performance, our business prospects and strategy, anticipated financial position, liquidity and capital needs and other similar matters. These forward-looking statements are based on management's current expectations and assumptions about future events, which are inherently subject to uncertainties, risks and changes in circumstances that are difficult to predict.

Actual results could differ materially from those contained in the forward-looking statements included in this quarterly report for a variety of reasons, including, among others: adverse trends in economic conditions generally or in the vacation ownership, vacation rental and travel industries; adverse changes to, or interruptions in, relationships with third parties; lack of available financing for, or insolvency of developers; consolidation of developers; decreased demand from prospective purchasers of vacation interests; travel related health concerns; changes in our senior management; regulatory changes; our ability to compete effectively and successfully add new products and services; our ability to successfully manage and integrate acquisitions; impairment of assets; the restrictive covenants in our revolving credit facility; adverse events or trends in key vacation destinations; business interruptions in connection with our technology systems; ability of managed homeowners associations to collect sufficient maintenance fees; third parties not repaying advances or extensions of credit; and our ability to expand successfully in international markets and manage risks specific to international operations. Certain of these and other risks and uncertainties are discussed in our filings with the SEC, including in Item 1A "Risk Factors" of our 2012 Annual Report on Form 10-K and in Part II of this report. In light of these risks and uncertainties, the forward looking statements discussed in this report may not prove to be accurate. Accordingly, you should not place undue reliance on these forward looking statements, which only reflect the views of our management as of the date of this report. Except as required by applicable law, we do not undertake to update these forward-looking statements.

GENERAL

The following Management Discussion and Analysis provides a narrative of the results of operations and financial condition of ILG for the three months ended March 31, 2013. This section should be read in conjunction with the consolidated financial statements and accompanying notes included in this report as well as our 2012 Annual Report on Form 10-K, which have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). This discussion includes the following sections:


Management Overview


Results of Operations


Financial Position, Liquidity and Capital Resources


Critical Accounting Policies and Estimates


ILG's Principles of Financial Reporting


Reconciliations of Non-GAAP Measures


MANAGEMENT OVERVIEW

General Description of our Business

ILG is a leading global provider of membership and leisure services to the vacation industry. We operate in two operating segments: Membership and Exchange and Management and Rental. Membership and Exchange offers leisure and travel-related products and services to owners of vacation interests and others primarily through various membership programs, as well as related services to resort developer clients. Management and Rental provides hotel, condominium resort, timeshare resort and homeowners association management, and rental services to both vacation property owners and vacationers.

Membership and Exchange Services

Interval, the principal business comprising our Membership and Exchange segment, has been a leader in the membership and exchange services industry since its founding in 1976. As of March 31, 2013, Interval's primary operation is the Interval Network, a quality global vacation ownership membership exchange network with:


a large and diversified base of participating resorts consisting of approximately 2,800 resorts located in over 75 countries, including both leading independent resort developers and branded hospitality companies; and


approximately 1.8 million vacation ownership interest owners enrolled as members of the Interval Network.

Interval typically enters into multi-year contracts with developers of vacation ownership resorts, pursuant to which the resort developers agree to enroll all purchasers of vacation interests at the applicable resort as members of an Interval exchange program. In return, Interval provides enrolled purchasers with the ability to exchange the use and occupancy of their vacation interest at the home resort (generally for a period of one week) for the right to occupy accommodations at a different resort participating in an Interval exchange network. Through Interval's Getaways, members may rent resort accommodations for a fee without relinquishing the use of their vacation interest. In addition, Interval offers sales, marketing and operational support, consulting and back-office services, including reservation servicing, to certain resort developers participating in the Interval Network, upon their request and for additional consideration.

The Membership and Exchange segment earns most of its revenue from (i) fees paid for membership in the Interval Network and (ii) Interval Network transactional and service fees paid primarily for exchanges, Getaways, reservation servicing, and related transactions collectively referred to as "transaction revenue."

Management and Rental Services

We also provide management and rental services to hotels as well as condominium and timeshare resorts and their homeowners associations through Aston, Vacation Resorts International, or VRI, and Trading Places International, or TPI. Such vacation properties and hotels are not owned by us. Aston is based in Hawaii and concentrates largely on hotel and condominium resort management primarily in Hawaii, as well as vacation property rental and related services (including common area and owner association management services for condominium projects). TPI provides property management, vacation rental and homeowners association management services to timeshare resorts in the United States, Canada and Mexico. On February 28, 2012, we acquired VRI, the largest non-developer provider of resort and homeowners association management services to the shared ownership industry, determined by number of properties.


As of March 31, 2013, the businesses that comprise our Management and Rental segment provided management and rental services at over 200 vacation properties, resorts and club locations in North America as well as more limited management services to certain additional properties.

Revenue from the Management and Rental segment is derived principally from fees for hotel, condominium resort, timeshare resort and homeowners association management and rental services. Management fees consist of a base management fee and, in some instances for hotels or condominium resorts, an incentive management fee which is generally a percentage of operating profits or improvement in operating profits. Service fee revenue is based on the services provided to owners including reservations, sales and marketing, property accounting and information technology services either internally or through third party providers. A majority of Aston's hotel and condominium resort management agreements provide that owners receive either specified percentages of the revenue generated under our management or guaranteed dollar amounts. In these cases, the operating expenses for the rental operation are paid from the revenue generated by the rentals, the owners are then paid their contractual percentages or amounts, and the Management and Rental segment either retains the balance (if any) as its management fee or makes up the deficit.

International Operations

International revenue remained relatively flat in the three months ended March 31, 2013 compared to the same period in 2012. As a percentage of our total revenue, international revenue decreased to 13.9% in the three months ended March 31, 2013 from 14.8% in 2012. The decrease in international revenue as a percentage of total revenue is principally attributable to the February 2012 acquisition of VRI which operates entirely in the United States.

Other Factors Affecting Results

Membership and Exchange

The consolidation of resort developers driven by bankruptcies and the lack of receivables financing has resulted in a decrease in the flow of new members from point of sale to our exchange networks. While access to receivables financing has recovered, financing standards for consumers remain higher than those required several years ago. Additionally, a high proportion of sales by developers are to their existing owners, which does not result in new members to the Interval Network.

Our 2013 results to-date continue to be negatively affected by a shift in the percentage mix of our membership base from traditional, direct renewal members to corporate members who are renewed directly by the respective developer and tend to have a lower propensity to transact with us. Membership mix as of March 31, 2013 included 61% traditional and 39% corporate members, compared to 65% and 35%, respectively, as of March 31, 2012. Consequently, where possible, we structure our corporate membership arrangements to include reservation servicing and/or other revenue streams to mitigate the anticipated lower transaction propensity.

Management and Rental

Our Management and Rental segment results are susceptible to variations in economic conditions, particularly in its largest market, Hawaii. According to the Hawaii Tourism Authority, visitor arrivals by air in Hawaii increased 7.6% for the three months ended March 31, 2013 compared to the same period in the prior year. The increase in visitors correlates with an overall increase of 9.7% in revenue per available room ("RevPAR") in Hawaii for the three months ended March 31, 2013 compared to the same period in 2012. The increase in RevPAR in Hawaii was driven by higher average daily rates.


As of the latest forecast (February 2013), the Hawaii Department of Business, Economic Development and Tourism forecasts increases of 5.4% in visitors to Hawaii and 7.1% in visitor expenditures in 2013 over 2012.

Business Acquisition

On February 28, 2012, we acquired VRI, the largest non-developer provider of resort and homeowners association management services to the shared ownership industry, determined by number of properties. VRI was consolidated into our financial statements as of the acquisition date and the financial effect of this acquisition was not material to our consolidated financial statements; however, the year-over-year comparability was affected as further discussed in our Results of Operations section.

Outlook

Throughout 2012, the vacation ownership industry remained in a period of transition that resulted in the bankruptcy, restructuring and consolidation of developers as well as continued modifications to their business models. We expect additional consolidation and reorganizations within the industry in 2013. Additionally, we anticipate margin compression and increased competition in our membership and exchange business.

For the Management and Rental segment, we expect Aston's RevPAR to continue to show year-over-year improvement as its largest market, Hawaii, continues its tourism recovery and benefits from increases in airlift into the island chain; however, increases in the cost of a Hawaiian vacation may negatively impact visitor arrivals and temper growth.

                             RESULTS OF OPERATIONS

Revenue

For the three months ended March 31, 2013 compared to the three months ended
March 31, 2012

                                                 Three Months Ended March 31,
                                                2013         % Change       2012
                                                    (Dollars in thousands)
    Membership and Exchange
    Transaction revenue                      $    61,148            NM    $  61,151
    Membership fee revenue                        33,364           2.3 %     32,599
    Ancillary member revenue                       1,924          (3.4 )%     1,991

    Total member revenue                          96,436           0.7 %     95,741
    Other revenue                                  5,659           9.5 %      5,166

    Total Membership and Exchange revenue        102,095           1.2 %    100,907

    Management and Rental
    Management fee and rental revenue             17,445          40.3 %     12,433
    Pass-through revenue                          15,341          14.5 %     13,399

    Total Management and Rental revenue           32,786          26.9 %     25,832

    Total revenue                            $   134,881           6.4 %  $ 126,739

Revenue for the three months ended March 31, 2013 increased $8.1 million, or 6.4%, from the comparable period in 2012. Membership and Exchange segment revenue increased $1.2 million, or 1.2%, and Management and Rental segment revenue increased $7.0 million, or 26.9%, in the quarter compared to 2012.


Membership and Exchange

The increase of $1.2 million in Membership and Exchange revenue in the first quarter of 2013 is primarily driven by an increase in membership fee revenue of $0.8 million, coupled with a rise in other revenue of $0.5 million. Transaction revenue of $61.1 million for the quarter is in-line with the prior year, despite the continued shift in percentage mix of the membership base from traditional to corporate, which has negatively affected transaction propensity.

Total active members in the Interval Network at March 31, 2013 decreased 0.8% to approximately 1.83 million members as compared to approximately 1.84 million members at March 31, 2012. Despite the decrease in total active members, greater penetration of Platinum and Club Interval products bolstered year-over-year membership fee revenue during the period.

The increase in other revenue for the year is primarily attributable to the incremental membership and exchange related activities due to the February 2012 VRI acquisition, as well as higher sales of marketing materials and non-member vacation rentals. Overall Interval Network average revenue per member of $52.79 for the first quarter of 2013 is consistent with the prior year.

Management and Rental

The increase of $5.0 million, or 40.3%, in management fee and rental revenue includes $4.1 million of incremental VRI management fee revenue. Fee income earned from managed hotel and condominium resort properties at Aston increased $0.7 million, or 9.3%, in the first quarter of 2013 due to a 15.8% increase in RevPAR to $166.39 driven by a 14.4% higher average daily rate and a 1.2% improvement in occupancy rates during the quarter compared to prior year.

Pass-through revenue represents reimbursed compensation and other employee-related costs directly associated with managing properties that are included in both revenue and expenses and that are passed on to the property owners or homeowners association without mark-up. The increase of $1.9 million, or 14.5%, in pass-through revenue in the first quarter of 2013 is principally related to our acquisition of VRI.

Cost of Sales

For the three months ended March 31, 2013 compared to the three months ended
March 31, 2012

                                                        Three Months Ended March 31,
                                                       2013        % Change       2012
                                                           (Dollars in thousands)
Membership and Exchange                              $   25,457          1.3 %  $ 25,126
Management and Rental
Management fee and rental expenses                        5,578         30.8 %     4,266
Pass-through expenses                                    15,341         14.5 %    13,399

Total Management and Rental cost of sales                20,919         18.4 %    17,665

Total cost of sales                                  $   46,376          8.4 %  $ 42,791

As a percentage of total revenue                           34.4 %        1.8 %      33.8 %
As a percentage of total revenue excluding
pass-through revenue                                       38.8 %        2.8 %      37.8 %
Gross margin                                               65.6 %       (0.9 )%     66.2 %
Gross margin without pass-through
revenue/expenses                                           74.0 %         NM        74.1 %

Cost of sales consists primarily of compensation and other employee-related costs (including stock-based compensation) for personnel engaged in servicing members of the Membership and Exchange


segment and providing services to property owners and/or guests of the Management and Rental segment's managed vacation properties, as well as cost of rental inventory used primarily for Getaways included within the Membership and Exchange segment.

Cost of sales in the first quarter of 2013 increased $3.6 million from 2012, consisting of an increase of $0.3 million from our Membership and Exchange segment and $3.3 million from our Management and Rental segment. Overall gross margin decreased by 62 basis points to 65.6% this quarter compared to 2012, primarily due to increased gross profit contribution from our lower-margin Management and Rental segment relative to total ILG gross profit.

Gross margin for the Membership and Exchange segment in the first quarter of 2013 was consistent when compared to the prior year. Cost of sales for this segment increased $0.3 million, or 1.3%, primarily due to an increase of $0.3 million in purchased inventory expense. The increase in purchased inventory expense was due to a higher proportion of purchased inventory utilized during 2013, coupled with an increase in the average cost per unit of this purchased inventory.

The increase of $3.3 million in cost of sales from the Management and Rental segment was primarily attributable to an increase of $1.9 million in segment pass-through revenue and of $1.1 million in other incremental expenses related to VRI. Gross margin for this segment increased by 458 basis points to 36.2% in the first quarter of 2013 compared to 2012. Our Management and Rental segment has lower gross margins than our Membership and Exchange segment largely due to the effect of pass-through revenue. Excluding the effect of pass-through revenue, gross margin for this segment increased by 233 basis points to 68.0% during the quarter compared to the prior year.

Selling and marketing expense

For the three months ended March 31, 2013 compared to the three months ended

March 31, 2012

                                                        Three Months Ended March 31,
                                                       2013        % Change       2012
                                                           (Dollars in thousands)
Selling and marketing expense                        $   13,735         (0.3 )% $ 13,773
As a percentage of total revenue                           10.2 %       (6.3 )%     10.9 %
As a percentage of total revenue excluding
pass-through revenue                                       11.5 %       (5.4 )%     12.2 %

Selling and marketing expense consists primarily of advertising and promotional expenditures and compensation and other employee-related costs (including stock-based compensation) for personnel engaged in sales and sales support functions. Advertising and promotional expenditures primarily include printing costs of directories and magazines, promotions, tradeshows, agency fees, marketing fees and related commissions.

Selling and marketing expense in the first quarter of 2013 remained relatively in-line with 2012. As a percentage of total revenue and total revenue excluding pass-through revenue, sales and marketing expense decreased 68 and 66 basis points, respectively, during the first quarter of 2013 compared to the prior year.


General and administrative expense

For the three months ended March 31, 2013 compared to the three months ended

March 31, 2012

                                                        Three Months Ended March 31,
                                                       2013        % Change       2012
                                                           (Dollars in thousands)
General and administrative expense                   $   26,305          3.5 %  $ 25,426
As a percentage of total revenue                           19.5 %       (2.8 )%     20.1 %
As a percentage of total revenue excluding
pass-through revenue                                       22.0 %       (1.9 )%     22.4 %

General and administrative expense consists primarily of compensation and other employee-related costs (including stock-based compensation) for personnel engaged in finance, legal, tax, human resources, information technology and executive management functions, as well as facilities costs, fees for professional services and other company-wide benefits.

General and administrative expense in the first quarter of 2013 increased $0.9 million from 2012, primarily due to incremental expenses of $1.8 million from the addition of VRI and unfavorable net changes of $0.4 million related to the estimated fair value of contingent consideration for an acquisition and of $0.4 million related to the retirement/disposal of certain assets. These cost increases were partly offset by lower overall compensation and other employee related costs of $1.8 million, excluding VRI.

The $1.8 million decrease in overall compensation and other employee-related costs, excluding VRI, was primarily due to a decrease of $0.6 million in non-cash compensation expense mainly due to awards granted at spin-off vesting fully during the third quarter of 2012, higher capitalized internal labor costs of $0.8 million pertaining to internally developed software, and $0.6 million of lower health and welfare insurance expense resulting from a drop in self-insured claim activity during the quarter compared to prior year.

As a percentage of total revenue and total revenue excluding pass-through revenue, general and administrative expense decreased 56 and 43 basis points, respectively, during the first quarter of 2013 compared to the prior year.

Amortization Expense of Intangibles

For the three months ended March 31, 2013 compared to the three months ended
March 31, 2012

                                                        Three Months Ended March 31,
                                                        2013        % Change      2012
                                                           (Dollars in thousands)
Amortization expense of intangibles                   $   2,012         (71.4 )% $ 7,043
As a percentage of total revenue                            1.5 %       (73.2 )%     5.6 %
As a percentage of total revenue excluding
pass-through revenue                                        1.7 %       (72.9 )%     6.2 %

Amortization expense of intangibles for the first quarter of 2013 decreased $5.0 million from the comparable period in 2012 primarily due to certain intangible assets related to our acquisition by IAC in 2002 being fully amortized by the end of the third quarter of 2012, partly offset by the incremental amortization expense pertaining to intangible assets resulting from the acquisition of VRI.


Depreciation Expense

For the three months ended March 31, 2013 compared to the three months ended
March 31, 2012

                                                        Three Months Ended March 31,
                                                        2013        % Change      2012
                                                           (Dollars in thousands)
Depreciation expense                                  $    3,664         10.8 %  $ 3,306
As a percentage of total revenue                             2.7 %        4.1 %      2.6 %
As a percentage of total revenue excluding
pass-through revenue                                         3.1 %        5.1 %      2.9 %

Depreciation expense for the three months ended March 31, 2013 increased $0.4 million over the comparable 2012 period largely due to additional depreciable assets being placed in service subsequent to March 31, 2012. These depreciable assets pertain primarily to software and related IT hardware, as well as certain website development costs.

Operating Income

For the three months ended March 31, 2013 compared to the three months ended
March 31, 2012

                                                        Three Months Ended March 31,
                                                        2013        % Change      2012
                                                           (Dollars in thousands)
Membership and Exchange                               $   39,672         23.1 % $ 32,220
Management and Rental                                      3,117         43.0 %    2,180

Total operating income                                $   42,789         24.4 % $ 34,400

As a percentage of total revenue                            31.7 %       16.9 %     27.1 %
As a percentage of total revenue excluding
pass-through revenue                                        35.8 %       17.9 %     30.4 %

Operating income in the first quarter of 2013 increased $8.4 million from the comparable period in 2012, consisting of an increase of $7.5 million from our Membership and Exchange segment and an increase of $0.9 million from our Management and Rental segment.

Operating income for our Membership and Exchange segment increased $7.5 million to $39.7 million in the first quarter compared to prior year primarily due to $5.1 million of lower amortization expense of intangibles, lower general and administrative expenses of $1.7 million, mostly related to lower compensation and employee-related costs during the quarter compared to the prior year, and an increase in revenue that resulted in higher gross profit of $0.9 million.

The increase in operating income of $0.9 million at our Management and Rental segment is primarily due to the incremental contribution from VRI and . . .

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