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Hilton could start returning capital to shareholders

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Net debt-to-EBITDA

Net debt-to-EBITDA (earnings before interest, tax, depreciation, and amortization) shows a company’s capacity to pay its debt. The lower the ratio, the higher the company’s capacity is to retire its debt from its operating cash flows. EBITDA is often used as a proxy for operating cash flows.

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Reducing debt

It should be noted that Hilton Worldwide’s (HLT) net cash used in financing activities during the year ending December 31, 2014, was $1,070 million—compared to $1,863 million during the year ending December 31, 2013. The $793 million decrease was due to a decrease in net repayments of debt of $2,041 million.

Improving EBITDA

Hilton’s adjusted EBITDA grew at a CAGR (compounded annual growth rate) of 12.5% since fiscal year 2010. During this period, the growth in EBITDA generated enough cash flow to decrease the company’s net debt-to-adjusted EBITDA from 10.5x in fiscal year 2010 to 4.2x in fiscal year 2014.

As of December 31, 2014, Hilton’s net debt divided by adjusted EBITDA stood at 4.2x. This is still higher compared to other hotels—like Wyndham Worldwide (WYN) at 4.1x, Marriott International (MAR) at 2.8x, and Starwood Hotels & Resorts Worldwide (HOT) at 1.7x.

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Higher leverage increases the risk of default. Investors can reduce their risk by investing in stocks through ETFs—like the PowerShares Dynamic Leisure and Entertainment Portfolio (PEJ), the First Trust US IPO Index Fund (FPX), or the Consumer Discretionary Select Sector SPDR Fund (XLY)—to mitigate such risks.

Key takeaways from 4Q14 earnings call

Kevin Jacobs, Hilton’s executive vice president and CFO, said that “Our leverage target continues to be 3 to 4 times net debt to Adjusted EBITDA. With our expected EBITDA growth in 2015…we expect to be within our target range during the second half of the year. At that point, we will explore returning capital to shareholders, most likely starting with the introduction of a dividend.”

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