FrontFour Capital Sends Letter to ClubCorp Holdings

Mr. Eric L. Affeldt
Chief Executive Officer
ClubCorp Holdings, Inc. 
3030 LBJ Freeway, Suite 600
Dallas, TX 75234

cc: Board of Directors, ClubCorp Holdings, Inc.

Dear Eric,

FrontFour Capital Group LLC ("FrontFour" or "we") has been a long-term and significant shareholder of ClubCorp Holdings, Inc. ("ClubCorp" or the "Company") since shortly after the Company's September 2013 IPO.   Presently, our holdings represent approximately 3.4% of the Company's outstanding shares, making us one of ClubCorp's largest shareholders.  As we have discussed with you in the past, we were attracted to ClubCorp for the following reasons:

(i)  Highly predictable revenue and recurring cash flow streams supported by 185,000 memberships and over 430,000 individual members;

(ii) Low annual capital intensity of 3–5% resulting in robust free-cash flow generation and an attractive dividend yield;

(iii) The opportunity to drive incremental margins and reduce churn via the continued increased penetration of ClubCorp's Optimal Network Experience (O.N.E.) program;

(iv) Improved member engagement through the transformation of traditional golf clubs into fuller-scope family and lifestyle-oriented leisure country clubs;

(v) ClubCorp's opportunity to consolidate the fragmented private country club industry and deliver an improved member experience;

(vi) The opportunity to deploy reinvention capital at attractive cash returns of 17% or greater; and

(vii) ClubCorp's irreplaceable portfolio of geographically diverse real estate holdings, which includes approximately 30,000 acres of land, underpinning a low cost of debt capital and the potential for a REIT conversion or other real estate monetization strategies.

Over the past year, ClubCorp has delivered strong operational performance through operating margin expansion and EBITDA growth while management has provided a robust financial outlook.  Despite these positives, the EV/EBITDA multiple at which ClubCorp trades has compressed significantly from 10.0x forward EV/EBITDA shortly after the IPO to approximately 7.5x today, as illustrated by the chart below.

Unsurprisingly, the compression in ClubCorp's multiple has resulted in the stock declining by approximately 40% over the last year.   As a result, ClubCorp now trades at a significant discount to comparable publicly traded leisure companies (see Peer Valuation chart below), as well as to our view of current value at ~$27 per share, which represents 10.0x our 2017 estimated EBITDA of $268 million.  In addition, we believe the stock is potentially worth even more in a strategic sale, REIT conversion or real estate monetization scenario.  Simply put, the Company's shares are trading at the lowest sustained valuation multiple since the September 2013 IPO and marginally above the Company's $14 per share IPO price, even in light of all of the positives accomplished to date.  This valuation discount has created a dynamic where ClubCorp's bolt-on acquisition strategy of creating average pro forma club purchase multiples of ~6x following 3 years of investment and stabilization is no longer accretive.  Accordingly, ClubCorp's ability to execute on the stated strategy, the accretive roll-up of the country club industry, has been significantly impaired.

We have spoken to other shareholders who share similar frustrations with ClubCorp's current valuation.  We believe the status quo is untenable and we fear that without more aggressive action from the Board of Directors (the "Board") to unlock shareholder value, the current discount to intrinsic value will persist indefinitely. 

As evidenced by the comparison table above, ClubCorp trades at a significant discount of nearly 3x to the broader leisure space, which encompasses peers including theme park operators, a large ski resort operator and a Japanese golf club operator.  These comparable companies have similar seasonality, capital intensity and free cash flow characteristics when compared to ClubCorp.  The average 2017 EV/EBITDA multiple of the U.S. Theme Parks/Resort comparable companies is 10.7x, even when including the depressed multiple of SeaWorld Entertainment, which still trades richer than ClubCorp despite the significant operational, political and structural challenges, as well as brand impairment issues.  ClubCorp also trades at a significant discount to Accordia Golf, a Japanese owner/manager of both golf course and driving ranges despite the fact that Accordia's business model is significantly more exposed to the number of public rounds of golf played in contrast to ClubCorp.  ClubCorp even trades at a discount to the regional gaming universe despite their higher leverage, no dividend payment policy and the economic, competitive and regulatory risks associated therewith.

ClubCorp's Botched Investor Messaging

We believe that ClubCorp's multiple compression has been largely self-inflicted and stems partially from poor communication with investors.  Again, we want to reiterate that most, if not all, of these points have been echoed by numerous shareholders over the past several years.  Below we provide the following investor concerns and our corresponding views:

(i) Management's public messaging that it is comfortable taking leverage back up to 5.0x Debt/EBITDA to fund acquisitions

FrontFour:

We believe that management's current public messaging that it is comfortable with leverage up to 5.0x debt/EBITDA has significantly penalized the performance of the stock as investors are pricing in a "levering event".  Additionally, over the past year, the equity markets' comfort level with increased leverage levels has changed significantly.  Whereas the market once embraced "levered roll-up stories," it is now largely skeptical of them.  ClubCorp management has allowed the "story" to be cast as that of an over-levered operating company, as opposed to a high recurring membership revenue model with a strong real estate value underpinning.  As a result, we believe that it would be most beneficial for ClubCorp to toggle from the position of providing a "leverage cap" of 5.0x to an actual reduced leverage target of 3.0 – 3.5x in conjunction with a plan/bridge to achieve this target.  A leverage target of 3.0 – 3.5x is more in-line with other leisure comparable companies and would be well received by investors.  We believe that given the Company's strong free cash flow generation, when coupled with projected EBITDA growth, would enable the Company to reach the mid-point of that target range at the end of fiscal year 2017.  Furthermore, we are highly confident that selling a select number of non-core, lower returning club assets would be accretive to the Company's valuation, improve ClubCorp's margin profile and would also provide capital for accelerated debt pay down, which would have the potential to drive the valuation multiple even higher.

(ii) The concern that low oil prices would have a significant impact on ClubCorp's operations given the Company's exposure to the Texas market

FrontFour:

We believe that ClubCorp's operational performance within its Texas markets demonstrates that not only are its operations stable, but that it can continue to grow its Texas operations despite low oil prices.  However, we do not agree with management's recent decision to cease breaking out the performance of its Texas operations given the second quarter's weather-induced weakness experienced in the Houston market.  In doing so, ClubCorp is providing fodder to skeptics who take a cynical view that management now wants to hide its Texas results from investors.  We think that it would be most beneficial if the Company were to continue to break out the Texas operations for the balance of fiscal year 2016.

(iii) Management's reluctance to provide realized returns associated with existing reinvention projects

FrontFour:

ClubCorp's reinvention program aimed at both acquired and legacy clubs is a central tenet to the investment thesis.  However, while ClubCorp targets a minimum return threshold of 17% on reinvention capital, it has never provided investors with a scorecard of realized reinvention returns to date on legacy clubs.  While we understand management's sensitivity to provide individual club level returns, we believe that there a number of ways to provide investors with the transparency that they need and are entitled in order to properly evaluate ClubCorp's reinvention program, while protecting the integrity of any "proprietary data".  Furthermore, we find management's reluctance to disclose returns on reinventions a bit puzzling, especially since it has provided this return information for acquired clubs.  Management's effective "trust us" stance is unacceptable and needs to be rectified so shareholders have greater transparency into all reinvention project returns, whether legacy or acquired.

(iv) Investor concern as to the ongoing capital intensity of the business driven by confusion between maintenance versus reinvention capital expenditures and by extension the "true free cash flow power" of the Company

FrontFour:

We believe that a point of contention of the ClubCorp investment thesis is the confusion between maintenance versus reinvention capital expenditures.  There are many cynics who believe that the Company is masking maintenance capital as reinvention capital and therefore downplaying the true "maintenance capital intensity of the business".  Furthermore, with the significant amount of reinvention capital that will have been deployed within the acquired Sequoia Golf portfolio and with the moderation in information technology spending, we believe that many investors are looking for capital expenditures to significantly drop off post 2017, therefore creating a free cash flow inflection point.  Given the extensive due diligence that we have conducted while visiting dozens of ClubCorp's facilities, it is obvious to us that ClubCorp's reinvention capital expenditures are transformative in nature and are in no shape or form "maintenance".  However, as counter-intuitive as it would seem to forgo reinvention projects with 17%+ returns, public equity holders would welcome a moderation in reinvention capital that would further increase free cash flow.   Please refer to the Projected Financial Performance chart on page 6 for a detailed free cash flow bridge.

(v) Management's lack of execution on the $50 million stock buyback program announced in February 2016

FrontFour:

Given the fact that the stock has traded off approximately 40% from levels one year ago against the backdrop of strong operational performance and now trades at a significant discount to intrinsic value, we believe that the Company should be much more aggressive in buying back stock than the $1.2 million that has been executed to date.  With the Company continuing to reiterate its 2018 aspirational EBITDA target of $300 million, we believe now is an opportune time to effectuate the stock buyback program.  Assuming a 10.0x multiple on ClubCorp's 2018 EBITDA target of $300 million would result in a target price of ~$31 per share, excluding cash generated through this period.  Based on the recent closing price of $14.43, this would equate to an annualized ROI of over 40%.  When comparing this return to the Company's internal ROI target of 17% by the third year, it becomes fairly obvious that buying back stock at current levels is by far the highest return on capital the Company can earn for its shareholders.  Furthermore, repurchasing stock would provide a much needed and important show of confidence by management in the Company's future prospects and long-term guidance.

(vi) Management's decision to issue $350 million of 8.25% Senior Unsecured Notes in December 2015 and its failure to highlight and leverage the Company's irreplaceable real estate to achieve low-cost debt financing

FrontFour:

In December 2015, we believe that ClubCorp's management and Board made a significant mistake in repaying part of the Company's existing Term Loan B which had been priced at an all-in interest rate of 4.25% (L + 325, with a 100bps Libor floor) with $350 million of 8.25% Senior Unsecured Notes to create further flexibility to fund a potential acquisition that did not come to fruition.  In doing so, the Company has locked itself into approximately $14 million in annual incremental interest expense.  We find it interesting that in its investor presentation materials, ClubCorp does not highlight that it owns the underlying land at 126 out of 160 golf and country clubs, which represents approximately 30,000 acres of real estate.  As management has stated, this real estate was previously appraised at a value of ~$1.5 billion in early 2016 by an independent real estate valuation firm.  We believe that had management better utilized the real estate value, cheaper financing offering significant financial flexibility would have been available either in the form of a mortgage or second-lien note.

Valuation

In summary, ClubCorp is a highly valuable enterprise of irreplaceable assets that generates significant free cash flow but trades at a significant discount to intrinsic value and to its peer group.  We believe now is the time for aggressive action to be taken to unlock shareholder value and ensure the discount does not further persist.   Management needs to immediately commence the process of improving its public messaging and financial disclosures incorporating the feedback provided in this letter.  To realize ClubCorp's intrinsic value, we also highly recommend that the Board immediately retain an investment bank to pursue any and all strategic alternatives, including an outright sale of the Company.  We believe that ClubCorp's portfolio of assets, which includes 30,000 acres of fee simple acreage, would garner significant strategic and financial interest from a variety of parties.  Given ClubCorp's currently depressed valuation, projected decline in capital expenditures and the potential near term exhaustion of tax mitigation strategies, the strategic alternatives process should consider whether the right time is approaching for a conversion to a REIT in order to unlock significant value.   

We have had significant success working productively both publicly and privately with the management teams and boards of many companies, including those within the leisure space, to drive significant value for all shareholders.  We look forward to a continued constructive dialogue with you and the entire Board of ClubCorp.

About FrontFour Capital:

FrontFour Capital is an investment adviser with offices in Greenwich, CT and Toronto, ON.  FrontFour focuses on value-oriented investments in North American companies.

Contact:
Stephen Loukas/David Lorber
FrontFour Capital Group LLC
35 Mason Street, 4th Floor
Greenwich, CT 06830
203-274-9050

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SOURCE FrontFour Capital Group LLC