Hilton Grand Vacations Inc. (HGV) Q3 2018 Earnings Report, Transcript and Summary

Good morning, and welcome to the Hilton Grand Vacations Third Quarter 2018 Conference Call. Today's call is being recorded and will be made available for replay beginning at 2:00 PM Eastern Time today. The dial-in number is (888) 203-1112, and enter PIN number 5339458. [Operator Instructions] I would now like to turn the call over to Mr. Robert LaFleur, Vice President of Investor Relations. Please go ahead, sir.

Thank you, Cody, and welcome to the Hilton Grand Vacations Third Quarter 2018 Earnings Call. Before we get started, we would like to remind you that our discussion this morning will include forward-looking statements. Actual results could differ materially from those indicated by these forward-looking statements, and the forward-looking statements made today are effective only as of today. We undertake no obligation to publicly update or revise these statements. For a discussion of some of the factors that could cause actual results to differ, please see the Risk Factors section of our previously filed 10-K or our 10-Q, which we expect to file later today. We will also refer to certain non-GAAP financial measures in our call this morning. You can find definitions and components of such non-GAAP numbers as well as reconciliations of non-GAAP and GAAP financial measures discussed today in our earnings press release, on our website at investors.hgv.com. As a reminder, our results reflect new accounting rules under ASC 606. For ease of comparability and to simplify our financial discussion and also as required in this transition year, our comments today will, unless noted, focus on the previous accounting view we refer to as Percentage of Completion or POC. As noted, reconciliation to GAAP are available in the earnings release. Also unless otherwise noted, the results discussed will refer to third quarter 2018, and all comparisons will be against the prior year period. This morning, Mark Wang, our President and Chief Executive Officer, will provide highlights from the third quarter 2018 in addition to an overview of the current operations and company strategy. After Mark's comments, I will come back on the line to go through the details of the third quarter results and expectations for the balance of the year. Following Mark, our Chief Accounting Officer, Allen Klingsick; and our Senior Vice President of Finance, Valerie Spangler will be available to answer your questions. And with that, let me turn the call over to Mark.

Well, thanks, Bob, and good morning and thank you for joining us. Q3 was a great quarter. Contract sales grew by 11.7%, NOG was up 7.4% and adjusted EBITDA was up 14%, with diluted earnings per share increasing by 47%. We've been building momentum through 2018 as we continue to benefit from ongoing investments we make in our customer, sales and marketing and result -- and our resorts. Despite volcanoes, hurricanes and the worst typhoon that Japan in over 30 years, our marketing teams generated record tour volume, and our sales teams effectively converted those tours into sales. Tours increased 9%, with strong growth from both owners and first-time buyers. This reflects our ongoing efforts …buyers. This reflects our ongoing efforts to identify new customers and build up our tour pipeline. Our success generating tours was broad based across multiple sourcing channel, including direct, local and owner reliables, as volume and efficiency improved in most of our key marketing programs. We continue to add first time buyers at a rapid pace. Half of our sales came from new buyers, and we added nearly 21,000 net owners to our system in the past 12 months. Consistent NOG means that every year, we expand our owner base, which grows our high-margin annuity stream of cost and management fees, and also embeds value from future real estate upgrades and related financing transactions. Operationally, our business is firing on all cylinders, and our ability to monetize the value embedded in our owner base each year provides us significant earnings visibility. As many of you follow the broader lodging industry are aware, hotel operators have the benefit of visibility and predictability when it comes to group sales. On the order book, approximately 20% of their total bookings. In our sector, HGV benefits from good visibility and predictability into approximately 70% of our total business headed into 2019. When you consider the contractual nature of our management, club and finance business and then add in the anticipated yet highly predictable owner upgrades, our business model should be less volatile throughout all phases of the economic cycle. Given our momentum, we're raising our full year contract sales guidance from 9% to 11%, to 10.5% to 11.5%. Likewise, we're also increasing the midpoint of our adjusted EBITDA guidance. Bob will provide additional details during the financial discussion. Another highlights, we completed the last two of our expected 2018 project announcements: The Crane in Barbados and our new project in Waikiki. In September, we were pleased to announce our sixth project in the important Waikiki market. We purchased a one-acre site located 2 blocks off the beach in the heart of Waikiki. Because the site was already entitled as a high-end residential project, and our purchase included the project's design plans, we're able to start construction next quarter, with sales starting in 2020. This time line is well ahead of what would have been possible if we had to unentitle and design the project our self. Moving to our property in Barbados, it's a spectacular resort and it's our first in the Caribbean islands. We're purchasing intervals in an existing timeshare resort on a just-in-time basis over the next 2.5 years and rebranding them, Hilton Grand Vacations at The Crane. We've already connected Crane to select U.S. sales centers, and we're expecting strong customer response. Crane provides a new high-demand destination, improving the overall value proposition of our club portfolio. With these two last projects, we've now revealed where all of this year's inventory spend will be directed. It covers our new projects in Japan, Cabo, New York, Chicago, Barbados and Waikiki, as well as renovations at the Ocean Tower and Residences, plus inventory repurchases and upgrades. We also announced a fee-for-service project in Charleston. I couldn't be more pleased at how our team came together to settle and close these fantastic assets. They're all in prime locations where current and prospective members have told us they want a vacation. We've now announced the bulk of our project-specific spending and inventory through 2020. These projects all have actual construction, conversion or just-in-time commitments with budgets, start dates, delivery dates and opening dates, which lowers our execution risk. And as I said last quarter, there's two sides to the return on investment capital equation, and we expect these inventory investments to accelerate our growth and generate exceptional returns. Now let me take a minute and update you on our CFO search. We're fully engaged in the process is moving along very well. We're highly focused on getting the right person into this role, not just in terms of technical proficiency, but also in terms of leadership and cultural fit. I've been pleased with the high quality of candidates we're seeing and I'm confident we'll be announcing our new CFO by year-end. That said, I've been very impressed with how everyone in my leadership team has come together to work through this transition period without losing a step. I really appreciate all the tremendous work from our finance team this past few months. We're also pleased to announce our Investor Day at the New York Hilton on December 4th. By then, it will be almost two years to the day since we've held our first one in 2016. Recently, we've spoken with many of our investors about what topics they'd like us to examine. So we've designed the day around taking a deep -- a very targeted dive into our business. This includes discussing the value of NOG, the resiliency of our business model, our inventory strategy-related returns, our capital allocation strategy and our financial outlook. We hope you can join us for this day in New York. I'd like to conclude my prepared remarks with some thoughts on where we see the business today. Each quarter, we drive a durable value-creation cycle, which consists of two major drivers: first, we monetize embedded value from our owner base; and second, we embed even more future value in that base by adding incremental owners. But what makes us unique is that the growth part of NOG actually creates a need for inventory. Fortunately, we're matching our need with a broad range of options. Today, we can deploy an efficient mix of our owned and third-party capital that allows us to add the right inventory in the right markets. To this end, we spent the last 24 months assembling a quality roster of new projects that should meet our needs and drive additional growth. So how does inventory drive additional growth? Well, history tells us that owner upgrades increase when we open new destinations, which also provides us access to new customers. And then the cycle repeats itself, as those new customers begin their own upgrade cycle. But the inventory isn't the whole story. And while we talk a lot about inventory, the story of growth is really about the customer, bringing in new customers, engaging existing customers and retaining them over the long run. To this end, the investments we've made in sales and marketing continue to produce record package sales, tour pipelines and closing efficiencies that we expect to drive demand. And of course, our sales and marketing efforts are closely tied to our relationship with Hilton. And as Hilton's global footprint and Honors Program reach new heights, we're working alongside them to evolve and adapt our customer-sourcing interfaces. We also note that our next growth chapter comes at a time of heightened concern about the economic cycle. However, we're very confident in our ability to execute, and we've been through this before. We invested $800 million across '07 and '08, and opened four properties right into the teeth of the great recession. Including pre-sales, all of them were 80% sold out within 2 to 4 years of opening. Our strategy is focused and disciplined around delivering incredible vacation experiences and growing our owner base. And even in 2009, at the worst of times, our strategy worked as we posted a 3% drop in contract sales in the same year our industry plunged by 35%. And when the next downturn comes, I believe we're in an even better place than we were in 2008 due to the great visibility and built-in resiliency I've talked about earlier. As I said coming into each year, we've got about 70% of our business already lined up. Our Hilton relationship is stronger than ever. The Honors System has grown threefold and so has our vacation pipeline. There's significant, more embedded value in our owner base and we have ample supply of capital-efficient inventory. We're able to fund our growth without extending our balance sheet or taking undue risk, and the credit we extend through our high-quality customer remains highly remarkable. So as I look forward, I believe our best years are ahead. I feel confident in our new properties and markets and their ability to drive growth. Since the spin, we've put our capital to work faster than we originally envisioned, which means we're adding value to the business sooner. We expect meaningful acceleration in our earnings and cash flow production, which should give us greater flexibility to allocate capital to achieve the right balance between growth and shareholder returns. In closing, I've never felt better about our business and our ability to create meaningful value for our team members, our owners and our shareholders. And with that, I'll turn things back over to Bob.

Thanks, Mark. As Mark highlighted, we saw strength across all business lines this quarter. In real estate, tours, VPG, conversion rate and contract sales volumes increased for both existing owners and first-time buyers. Strong NOG drove results in resort and club, while rental and ancillary benefited from our acquisition of the Quin, better availability and strong rates. Adjusted EBITDA margins expanded by 100 basis points in the Real Estate and Finance segment and by 180 basis points in the Resort and Club segment. With just one quarter left in the year, we're increasing our contract sales guidance and raising the low end of our adjusted EBITDA, net income and EPS guidance ranges. Reconciling GAAP to POC, Ocean Tower was still under construction in the third quarter, so GAAP results reflect Ocean Tower deferrals. That said, we completed the Phase I Ocean Tower construction in early October, so fourth quarter GAAP results will reflect the recognition of all prior Ocean Tower deferrals. Now onto our results. Total company revenue increased 13% to $483 million, reflecting growth in all business lines. Net income increased 44% as this year's lower tax rate amplified the benefit of the 17% increase in pretax income. Total segment adjusted EBITDA increased 19% as margins expanded 150 basis points. Real estate fundamentals were strong across-the-board as contract sales increased 11.7%. We had a good third quarter at our Mainland locations, with double-digit growth coming from Orlando, New York, Hilton Head and Washington, D.C. Despite a lost week at the end of September due to Hurricane Florence, Myrtle Beach still showed positive growth. Shaking off the effects of typhoons and an earthquake, Japan led the APAC region with high single-digit Shaking off the effects of typhoons and an earthquake, Japan led the APAC region with high single-digit contract sales growth. Ocean Tower continues to set a sales pace record, with year-to-date contract sales reaching nearly $170 million. Driven by continued momentum at our Ocean Enclave property, fee-for-service contract sales were up 25% compared to a 3% decline in owned contract sales. Our fee-for-service mix was 58%, up from 52% last year. Year-to-date, we're running at 55%, which is at the high end of our guidance range. We expect to end the year within our current guidance range. In the Real Estate business line, revenues were up 15%, and real estate margin increased 26% to $83 million. The margin percent expanded 270 basis points to 30.4%. Turning to financing. Margin increased 4% as higher interest income from growth in the receivables portfolio and a slightly higher weighted average interest rate was offset somewhat by modestly higher expenses. The consumer finance portfolio increased by $26 million in the quarter and our average interest rate increased by 4 basis points and our long-term allowance increased to 13.3% from 12.6% last quarter. Before I continue with the results, you might notice that our portfolio stats, while still strong in an absolute basis, have come in a bit this year, so we want to take a minute to talk about what's driving that and some of the corrective steps we're taking. The first factor is the mix shift related to our Japanese borrowers in Hawaii. Our Japanese customers are some of our best borrowers, and they perform in line with domestic borrowers at the highest FICO bands. The Japanese owners upgrade into our Hawaiian fee-for-service project. Their loans migrate out of our loan book and into the fee-for-service loan book. However, removing some of the highest-quality loans from our book reduces the overall credit quality of the remaining portfolio. Another trend we're monitoring is the software performance of large dollar loans. As a result, we started to proactively seek higher equity commitments from these borrowers, we're starting -- we started with an incentive-based programs to get higher down payments, and saw good results with no impact to sales. We decided to take that a step further, so starting this month, we're now requiring 10% additional down payments for most finance upgrades. Given the impact of our initial program, we expect continued improvement in the credit performance of this subgroup of borrowers. The last factor, slower write-ups, is compounding the impact of higher provisions on allowance. We're updating our foreclosure process, which has temporarily slowed down the clearing of impaired loans. The other contributor is that many of the large dollar loans were default for taking up problem jurisdictions where the foreclosure process takes longer. Finally, it's worth noting that fewer than 20% of our owners carry a mortgage with us. For those that do, our underwriting standards remain very high, our weighted average score was 748 from new loans this quarter, and as rates continue to rise, we did recently institute a 50 basis point interest rate hike across our entire lending platform. Now back to the rest of our financial results. At the segment level, Real Estate and Financing segment adjusted EBITDA increased 16% to $94 million and the margin expanded 100 basis points to 27.1%. Turning to our Resort and Club business. Revenue increased 8%, driven by 7.4% NOG. Margin was up 16% and the margin percentage increased 490 basis points to 72.5%. In Rental and Ancillary, revenues increased 33%, reflecting the first quarter of contribution from our recent acquisition of the Quin in New York City. As we announced at the time of that transaction, the Quin will continue to operate as a hotel through the timeshare conversion process. Although we do expect moderation of rental performance over time as we renovate hotel rooms into timeshare units. Rental and ancillary margin increased 53% to $23 million and the margin percentage expanded 500 basis points. At the segment level, resort operations and club management adjusted EBITDA increased 24% to $62 million as margins expanded 180 basis points to 57.4%. Bridging the gap between the segments and total company adjusted EBITDA, license fees increased $3 million to 25 million. G&A expenses were up by $8 million, and our joint venture generated adjusted EBITDA of $2 million, bringing total company adjusted EBITDA to $107 million, an increase of 14%. Turning to the balance sheet. Our corporate leverage at quarter end was 1.3 times or 0.9 times on a net basis. During the quarter, we've repaid $105 million on our bank revolver and $109 million on our receivables warehouse. We also issued $350 million of ABS notes and a 98% advance rate and the weighted average interest rate or 3.6%. This was our first year with three classes of notes, including our first ever AAA tranche, which priced at 58 basis points over swaps, the tightest spread we've ever achieved on the HGV Trust platform. We ended the quarter with $212 million in cash, including 67 million of restricted cash. Corporate debt was $530 million. We have capacity of $145 million on our revolver and $330 million on our warehouse. We still expect upside and extended maturities at our credit facility before yearend and believe that market conditions still remain favorable. Third quarter adjusted free cash flow was $124 million, giving effect to net proceeds from the ABS deal. Now turning to guidance details for the balance of the year. We're raising full year contract sales growth from 9% to 11% to 10.5% to 11.5%. We're also tightening our 2018 adjusted EBITDA guidance range from $422 million to $437 million, to $427 million to $437 million, which increases the midpoint from $430 million to $432 million. At this point, we're comfortable at the high end of our new range. As a reminder, this is the POC view of guidance, which excludes $67 million of adjusted EBITDA related to sales made at the residences prior to 2018, that we've been discussing throughout the year. To help reconcile POC adjusted EBITDA guidance to GAAP, I'll go through the deferrals and recognitions that formed the $67 million full year bridge. We had a net deferral of 33 million in Q1, a net recognition of 56 million in Q2 and a net deferral of 27 million in Q3. Therefore, we're expecting a net recognition of approximately $71 million in Q4, that will get us to a full year net recognition benefit of $67 million. One last bit of housekeeping regarding the Investor Day in December. Given the capacity constraints of the venue, the event is invitation-only. Invitations will go out next week. If you don't receive an invite and you like to attend the event, please contact us, and we'll do our best to accommodate. The event will be webcast live on our Investor Relations site, and the presentation slides will be available immediately after the event. This completes our prepared remarks. We will now turn the call over to the operator and look forward to your questions. Cody?

Thank you. [Operator Instructions] We'll take our first question from Patrick Scholes from SunTrust.

Must feel good, finally, to see your stock getting a little love in the market after a little bit of a dry spell there.

Well, I haven't even looked yet. But Bob's been looking at me like something positive is happening. So that's good.

My question has to do with balance sheet, share repurchases and dividends. Certainly, with cash going out the door this year for developments, you haven't done any of dividends or share repurchases. As we think about next year and perhaps timing of it, what's the trigger event for you to be more aggressive? You don't initiate a dividend or share repurchases. Is it simply just on a sustained basis cash flow, free cash flow turning positive? Is there something else that you would look at?

Yes. No, Patrick, I think, maybe the broader question or discussion is how do we look at prioritizing our capital allocation. And I can assure you that senior management and our board are frequently evaluating our capital allocation and as part of that buybacks and dividends. So we're looking at evaluating all the opportunities that are out there. But I think we said from the outset, and we were very clear that the priority of the first 24 months was to put our money to work to grow the business. It was the main driver -- the main rationale for spinning out of Hilton was to unlock the value of the business and finally get our hands on our own dedicated capital. And we knew there is opportunities out there to accelerate the business, and we're a little slow out of the gate. First year, we put $45 million to work, but we're really pleased with what we've been able to accomplish this year, with these amazing assets and the fact that we've remain very capital efficient and the structure. So I'm convinced we've made the right move, and we're going to start seeing the benefits. We've already started to see a little bit this year. But as we go into '19 and 20, we're going to see this accelerated growth and we're going to see our cash flow levels multiply from where they are. So really, we're going to be resetting our business at a higher level. Now that said, we're 23 months into our 24-month initial plan, so you can expect we'll update you on our capital priorities going forward at the Investor Day.

We'll take our next question from Brian Dobson with Nomura Instinet.

So last quarter, you outlined some medium-term EBITDA, free cash flow and inventory spending. Could you update us, at your comfortable, with those targets? And then, secondly, what level of flexibility do you have with inventory spending if we were to see meaningfully softer GDP in 2019?

Yes, sure. I think we'd reiterate what we talked about last call. We're expecting 100 to 200 bps of growth rate this year and next year. So I think, we've put in a range of 7% to 10% for next year. And then beyond that, we expect growth rates of 300, 400 bps above the based case that we've put out originally. As far as -- in terms of cash flow, we're expecting about $100 million next year and as our EBITDA grows, we should see a nice ramp-up in free cash flow, adding the 300 to 400 potentially beyond that when we get out to about 2021. And we're going to provide a lot more details at our Investor Day as it relates to that. As far as flexibility goes, most of the projects we've talked about are existing structures, and they're capital-efficient, they're just-in-time deals, they're conversions of hotels or they're conversion of existing timeshare projects. So one project we would have some flexibility on, should we have to, will be King's Village, and that's a site in Waikiki. But that being said, the King's Village opportunity for us is a great one. First of all, it's in a market that's really proven for us. If you go back, I think, since 2015, we sold $1.3 billion of Waikiki inventory. So securing the site was really important, and we were very fortunate that the residential or resort, high-end condo market is slowing in Waikiki right now, but we're not slowing. And we were able to secure the site. It was fully entitled and fully designed, and just to give you an example of The Grand Islander, which is the last project that Blackstone and I had built. We contracted on third-party basis. That took 10 years from the date we identified that site, to get the entitlements, to get the approvals through the city and to get it constructed. So we're looking to start construction, I think, later this year, early next year. So we took a lot of risks out of that deal, and we've got a lot of demand that we're creating in that market. So I guess, that's a long way to say there's probably one deal after that we could possibly push back.

And we'll now take our next question from Jared Shojaian with Wolfe Research.

Mark, I'm wondering if you can just talk about some of the trends you're seeing from the consumer right now, and specifically what you're seeing with close rates, write-offs, ability to drive tours. Obviously, there's a lot of concerns, and your stock has been pretty volatile. So I'd love to just hear your perspective right now in the current environment.

The current environment is really good. I mean, we're up, what, 12% for the whole year. We just had another great quarter. When we look at the demand creation piece, we're -- our business is about -- we have an active model. We're not a passive model. And we're out there connecting with customers. And for us, our relationship with Hilton has never been better than it is today, and we're engaging with them. Every day, we're engaging importantly with this great pool of customers that Hilton provides us access too. So if you look at our -- our tour pipelines are at record levels. And what I mean by tour pipelines, those are new customers that we've already sold vacation packages to this -- we've sold this year that will be traveling this year or within the next 18 months. And that pipeline is fuller than it's ever been, it's very robust. If you look at what we're doing in the markets, in all the markets we're in today, we're seeing strong, we call it, ground game, where we're touching a lot of customers in the markets that we're in and have very, very strong demand. So we're feeling really good there. And then when you talk about the conversion rates, we're at record levels with our owners today. We've never converted and seen more yield out of our owners than we're seeing today. And we're also seeing improvement in conversion with new buyers, and we've seen a meaningful uptick this year. So all in all, the customer is behaving really well. I talked about it in my prepared remarks, from an operational standpoint, I couldn't be more pleased at what we're seeing today.

That's great. And just to switch gears here. I didn't hear you calling a financial impact from the hurricanes and the typhoons in Japan. Can you just talk about what percentage of your sales volume is in the affected areas? And I would imagine the headwind is probably too immaterial to call it in the press release, but can you just tell us what the headwind was?

Yes. Well, we're very fortunate. Things could have been a lot worse. And while we were impacted, we elected to kind of exclude the impacts as we mitigated the losses with outperformance in other markets. But that being said, we had sales centers and resort closures at Myrtle Beach and Hilton Head, and we had sales center closures in Japan. But in all cases, in those three examples, we still grew the market year-over-year. So I think we've just elected not to put a number in there right now. We're fortunate with the actual bullet. There's going to be a point in the future, where we've got a lot of resorts that people love to travel to, but that are -- that sit in natural harm's way. So anyway, so the bottom line is I prefer not to mock-up the numbers and have to do the year-over-year comparisons if it's not material.

We'll now take our next question from Cameron McKnight from Crédit Suisse.

This is Ben coming on for Cameron. Just a quick question for either Mark or Bob, just on the contract sales for this quarter. I might have missed it, but I was wondering if you could break out the contribution from the new assets. I think I had $170 million from Ocean Tower, but can you give any color on the other new assets?

Look, I don't know that we have that breakdown. I think right now, I think, it's Ocean Tower. The next new asset that really goes online is our Crane property in Barbados, which we're really, really excited about. That's a very capital-efficient deal of an extremely high-end asset. It's an asset that was developed by a Canadian developer. He's been selling timeshare at a very moderate pace. I think he's at that point in his life that he thought, maybe it's time to speed some things up, and connecting the Hilton brand to it made a lot of sense. So, really, the impact from the new investments that we've been talking about this year, will get a little bit on the very tail end of this year, but we'll start seeing some benefits more toward the end of '19 when we look at Chicago and a couple -- I think that's a couple of other of those deals that could benefit us.

And then just a quick follow-up. In terms of the 500 million of inventory spend this year, can you break that out in terms of what you'd consider to be genuine maintenance spending versus growth?

So this is Valerie. When we think about -- we've announced several projects so far this year. So there's a fair amount of new opportunities that will be coming in future years, which Mark has mentioned. But we do have continued spend on the residences that are still under construction, as well as our Ocean Tower project. And then, there's, to a smaller degree, a small percentage of that is also just kind of our standard annualized spend around our fee-for-service upgrade programs, specific to Grand Islander, as well as our active buybacks of our owned projects.

We'll move on to our next question from Stephen Grambling with Goldman Sachs.

I guess what would you typically look for as a signal that the consumer environment is softening? I guess, would that be conversion rates or tour flow? And then, is there any way to assess the amount of growth year-to-date that's come from the investments that have already been made versus kind of the underlying consumer health?

Yes. Look, Stephen, I'd say we've really benefited from rolling out the Ocean Tower. And that, interestingly enough, that property was part of the spin. And so we're really benefiting from that asset being transferred over to us at spin. So it's the main, main contributor. As we mentioned before, the opportunities that we've announced this year, only Crane will get a little bit of benefit toward the end of this year, and then the rest really starts materializing in our '19, '20 and '21. As far as the customer goes, I think its conversion rate is probably going to be the biggest indicator out there. It seems that the customers have worked targeting. They don't take on the general characteristics of the U.S. population because we've been focusing our attention on a more affluent customer, those averaging about $150,000 in household income. And this segment typically has more discretionary income and has fared much better in downturns. So I think the fact that we're zeroed in and very focused on this average household income of $150,000 is important for us. But I would say, it would be conversion. We were, I think, circa $3,600 in VPG last quarter, I think, we're leading the industry there, even though we're 50-50 mix. I think, if we were to mix our sales to about 65% to owners and 35% to new buyers, our actual effective VPGs would be around $4,200. So I think, the other day, our sales teams are doing a great job on the conversion side. And importantly, our marketing teams are continuing to impress by going further upstream and really finding the quality customers that I've talked about earlier that are more stable.

And then maybe a different follow-up. I guess, what are the strategic merits of extending credit to customers yourself versus, perhaps, pursuing a partner with a bank or, otherwise, take on the financing receivables and may even provide you the permanent source of immediate capital?

Well, I think, effectively, we're doing that right through our securitizations, right? So I don't know if you want to cover on that, Allen?

I think what we find with the potential upside of financing, the receivables, the additional adjusted EBITDA contribution from those -- from that financing book is material and very lucrative. And so until that changes, and we don't foresee that changing, we would stick with that strategy.

Yes. We -- I think as Bob alluded to, we had a great execution on the ABS, so there's -- our portfolio is very marketable, as attractive rates and spreads I think we're 4 or 5x oversubscribed this last time, and so it's a good business, as Allen said.

We'll hear now from Brandt Montour with JPMorgan.

I just wanted to circle back on comments you made regarding the loan book. And I understand the Japanese borrowers and the mix issue on that side of the equation. But you talked about more stringent lendings requirements as part of your book. And I just want to understand a little bit more, how much of this is you being preemptive due to macro, rising rates, et cetera, and how much of this is you guys reacting to actual -- some deterioration within the credit quality of your consumers.

Brandt, this is Allen, thanks for the question. So just to start off. Our portfolio, we still feel very confident in its performance. As Bob indicated, a couple of the things that we are seeing or trends we're seeing driving some deterioration, we believe are unique to a mix shift versus a consumer macro deterioration, specifically around the shift to Japanese borrowers out of our book. However, we are cognizant that there is deterioration across most consumer financing folks in various industries, and part of our deterioration is likely due to some level of just macroeconomic deterioration. The changes in some of the lending practices that Bob did mention in his remarks around creating or taking additional down payment on larger-balance loans, we feel, definitely, will correlate to a lower default rate in those higher-balance loans that people have more skin in the game there. Looking at -- back historically, at the last recession, we didn't see default rates surpass 7%., and that level of the default rate was tolerable then to continue to have a very profitable and strong returns on the sales, and we feel -- we don't feel there's any indication that, that would -- we would see something higher than that at this time.

And then just on the CFO search. You gave us some helpful details there. I was just wondering, how important it is for that person to have timeshare experience and/or public company experience?

Brandt, yes. I don't think it's that important to have timeshare experience. I think one of the things that the CFO is their -- I think their skill set is very portable and can move across different sectors and different industries. As far as public company experience, again, I think it's always nice if they have it, but there are also great candidates out there that had really checked all the boxes, that had been in the public company environment, that participated in IR, participated in the treasury side, knows the capital markets, and importantly, has a really good understanding of how to interact and support the operating side of the business. So while it would be nice to have somebody who has that experience, I don't think it's critical.

We'll hear now from David Katz with Jefferies.

And I apologize if we've sort of covered this. But with respect to up guidance, is it just a deferral matter? Or how much are we pushing through the beat from 3Q? And I'm thinking about it essentially on an EBITDA basis. How would you have us characterize the up guidance?

This is Valerie. Thank you, David. It's really the confidence that we have in the business. So the performance that we've seen over the last three quarters, really, is allowing us a good feeling to go ahead and up that midpoint of our guidance range on an adjusted EBITDA basis, as well as on the contract sales side of the business. So when it comes to the deferral impact, we anticipate to be fully covered within Q4. So just to kind of circle back around, I think the business is strong, the first three quarters are evidencing that. And so we're feeling really good to go ahead and give you kind of an implied guidance of what our future will look like.

[Operator Instructions] We'll hear now from Edward Engel with Macquarie Capital.

Do we have any sense of the pace of inventory investment being made by your fee-for-service partners right now, maybe over the next couple of years, kind of relative years prior?

I'm sorry. Could you repeat that question? I want to make sure I understood the first part.

In terms of the levels of investment being made by your fee-for-service partners, I guess, their inventory spend. Had there been any change in that within the past 1 to 2 years? And do you kind of see that maintain the pace that was made kind of through 2011 to 2016?

Yes. That's a little hard to kind of articulate. I think every deal we do with the fee-for-service partners are one-off projects, right? I would say that we've got a good ample supply, but it's still fee inventory that's going to carry us over probably in the 50% range fee for at least the next 18 to 24 months. And I can also say that there's an over -- potential other fee deals that we are talking to you, investors, there's an over -- potential other fee deals that we are talking to you, investors, about. But anyways, they're really aligning their spend around our sales pace. And so at the end of the day, I think we're in really a good position with our fee partners. There are more opportunities, and we're willing to take on. And what I mean by that is you've got to match your customer flow and your demand to these projects. And one of our goals is trying to be very disciplined and ensure that we're meeting the objectives for our fee partners. We don't want to get ourselves out too far out of that, and to ensure that they're getting the kind of returns that they expect.

So there's no evidence of just rising building costs maybe impacting your interest in making new deals?

No. At the end of the day, this is not anything that we've heard. We've got a Big 350 project in Myrtle Beach under construction right now. We're in discussions with another fee partner for another substantial investment in building a fee project, we've got another fee project in Charleston that is going to be starting construction here pretty soon. So one of the things that I think we've proven out is that the fee model works through multiple cycles, meaning, I think, initially, there was I believe that the fee-for-service model only worked in a down market. But we've done more fee deals in an up market and more ground-up construction deals on a fee basis than we have when the market was recovering from the financial crisis.

Ladies and gentlemen, at this time, we will conclude the question-and-answer session. I would like to turn the call back over to management for any additional or closing remarks.

Well, thanks again for joining us this morning. We had a great third quarter in 2018 and so far has been strong. As always, we appreciate your continued interest in HGV, and we look forward to seeing many of you at our Investor Day next month and then spending time talking to you about the year-end early next year. Thank you.

Thank you, ladies and gentlemen. This concludes today's call. Thank you for your participation. You may now disconnect.