Cedar Fair: Restored Distribution Reason Enough To Buy? (FUN)

Introduction

Cedar Fair, LP (NYSE:FUN) is a limited partnership trading units, rather than shares of stock, and rather than paying a dividend, had paid a Distribution. For many investors, that’s enough to avoid it as an investment, and those readers probably won’t read this any further. As for the rest of you, Cedar Fair may be a decent investment, but its forward yield of that Distribution is less than 3% and is unlikely to excite those looking for yield. There are a host of issues that should be examined before making a buy/sell decision, and this article will attempt to look at some of them.

Recent Results

Through the Labor Day weekend Cedar Fair reported:

• Preliminary net revenues through Monday, Sept. 5, 2022, totaled a record $1.37 billion
• Record levels of in-park per capita spending ($61.11) and out-of-park revenues ($163 million).
• The 15 parks had entertained a total of 20.5 million guests.
• Double-digit top-line growth met plan.

President and Chief Executive Officer Richard Zimmerman noted that “We are very pleased with our record results and expect continued outperformance driven by our extremely popular Halloween celebrations, which are set to debut in just a few short weeks.” Sounds great doesn’t it? And, this was accomplished despite food inflation taking a bigger bite out of the of the family budget and surging gas prices, something that one might think would negatively impact a potential visitor’s decision to pile the family into the car and drive several hours to one of Cedar Fair’s parks.

Unfortunately, no mention was made about the bottom line. It’s been more than a year since I last wrote about Cedar Fair. At that time there were issues with finding and hiring enough staff despite offering incentives. In fact, hiring was so difficult that the parks were unable to remain open seven days a week. Also, there were reports about some rides not running because of a personnel shortage on those days where the parks were open. While we don’t have direct info on Q3 costs, we can look at what occurred during Q2. During the Q2 earnings call CFO Brian Witherow noted the impact of inflation:

Despite inflationary cost pressures, cost of goods sold as a percentage of food, merchandise and games revenue only increased 128 basis points from 2019 levels. The increase in operating costs was largely attributable to an increase in seasonal labor costs driven by higher rates, higher full-time wages primarily related to planned increases in headcount at select parks, and the inclusion of the operations of the Schlitterbahn parks.

Looking at more recent comparisons, our average seasonal labor rate in the second quarter was only up 3% over the second quarter of 2021 reflecting the successful efforts to revamp our seasonal pay structure last year. The increase in the most recent quarter’s SG&A expense was primarily due to an increase in full-time wages, including higher incentive plan expense as well as higher transaction fees driven in part by this year’s initiative to convert all our properties to cashless.

Despite Witherow’s optimism about containing the seasonal labor rate, there is little reason to expect that inflationary pressures on labor rates suddenly reversed for Cedar Fair in Q3 or Q4. This pessimism would appear to be supported if we pay attention to the Fed and its hawkish stance on curbing the rapid rise in inflation. A recent article by Reuters noted:

Information since the Fed’s July 26-27 meeting has given some small sense that the pace of inflation, which has been running at 40-year highs, may be slowing, but not enough for policymakers to feel confident it has peaked. read more

The job market, meanwhile, remains strong, with an Atlanta Fed wage tracker showing earnings through August continued growing at a 5.7% annual pace, a rate some policymakers feel is inconsistent with the Fed’s 2% inflation target.

And, if labor costs have continued to rise, are investors too optimistic about the Distribution, a Distribution that had once fueled the rise in the Unit price?

The Distribution

The Distribution was discontinued in early 2020, a victim of the COVID-19 pandemic that resulted in the temporary closure of the Cedar Fair parks. The Distribution wasn’t restored until last month with a payment of $0.30. That would put the current Distribution rate at $1.20 per year, an annual rate that would be only slightly above the $1.00 paid out in 2011.

The Cedar Fair Distribution has had a similar trajectory in the past. From 1988 until 2009 the quarterly Distribution had slowly risen from $0.131 to $0.48. It would then fall victim to the Great Recession and was cut to a quarterly rate of $0.25 in mid-2009. After the end of 2009 it would be reduced to a single payment of $0.25 in late 2010, keeping a string of annual payouts intact. In 2011 quarterly Distributions were resumed with payouts of $0.08, $0.10, $0.12 and $0.70, or a total of $1.00. In 2012 the payout was increased to $0.40 per quarter for a total of $1.60. In 2013 it jumped to $2.50, followed by increases to annual rates of $2.80, $3.00 and $3.30. The increases would begin to moderate until the annualized rate peaked at $3.74 by the end of 2019. There would be one more payment at that rate in Q1 of 2020, but it would be the last payout until the $0.30 payment last month. The failure to pay any Distribution in 2021 marked the end of a decades long streak of making some sort of annual payment.

It may be a fool’s errand to try to predict the sustainability of the current Distribution. It would take an even bigger fool to try to authoritatively predict whether the future payouts will remain the same, decline or rise, and if they are to rise, how big an increase should one expect? Nevertheless, this particular fool will go out on a limb and make such a prediction when I give the equity a rating at the end of this article.

The Unit Price

The rapidly rising payouts had helped fuel the growth in the Unit price, which peaked at $72.56 in the middle of 2017. When the top line growth slowed, the Unit prices dropped sharply. This wasn’t the first time that investors had witnessed the Unit prices fall as sharply as some of the drops on Cedar Fair’s famous roller coasters.

Even before the first COVID-19 case was confirmed in the US, the price had dropped below $50 in the latter half of 2018. By Q1 of 2020, the park closures and a steep market sell-off saw the price crater to a low of $13. It would climb back above $50 within a year, but closed below $40 at the end of last week.

It’s not at all clear how well the company’s parks will draw to its special events for Halloween and Christmas in Q4. Staffing cost increases are likely to be an issue – assuming they can hire enough people to make a visit worthwhile – and drenching rains and high winds at several of its parks are likely to have already negatively impacted the bottom line. Gas prices rebounding off their recent lows could continue to rise after OPEC participants agreed to reduce production and that might also be a deterrent. Perhaps that has already been factored into the Unit price recently falling back below $40.

Rating

Seeking Alpha requires contributors to assign a rating to an equity that they write about. This has always been a challenge for me because I almost always write about an equity that we own. Also, in most of our accounts, we regularly reinvest the Distributions (or dividends) back into the position, meaning that I could be buying while issuing a sell or hold recommendation.

And, it gets a bit more problematic…

• I will frequently execute short term trades around a core long position, so I could be selling to close out a recent purchase while issuing a buy recommendation, or buying back a recent sale while issuing a hold or sale recommendation.
• I will frequently write out of the money covered calls on a long position. If the shares or Units are trading above the strike price near expiration, I could decide to buy back the calls, roll the calls forward or sell by allowing the position to be called away.
• I could sell part of a well performing long position simply because it has become too large a portion of our holdings, and use those funds to diversify, or simply build up a cash position as I wait for a more attractive opportunity. (Currently we are “overweight” cash.)

In the case of Cedar Fair, I have annually sold off some Units in order to make the mandatory withdrawals from an Inherited IRA account in order to cover the withholding tax liability. Earlier this year I sold a position that I thought was overvalued and may buy it back at any time as the price has retreated back below $40.

Irrespective of my own activity, I have tried to objectively determine a rating, and have decided it’s appropriate to consider this a long term buy, where an investor could begin dollar cost averaging into a position and take advantage of some further volatility. It’s based largely on the decision by the company to re-instate the Distribution at an annual rate of $1.20 per year, a Distribution that should be increased in the future. Unfortunately, long term buy is not one of the options that I can select.

A Sell or Strong Sell recommendation could very well work if the stock declines in the near term, allowing an investor to take advantage of some downside volatility (which I expect) and a more favorable entry point. The concern is that the rating sticks to the article, and I don’t write frequently enough to issue a timely change. The opposite could be true with a Buy or Strong Buy, but that would be based on the idea that we will – at some point – bounce off these lows and could see a 40%-50% move higher over the next few years.

If the Distribution were larger, I could comfortably recommend a Hold based on total return, but with inflation currently well above the forward yield of 2.5% it’s difficult to recommend something that could fail to keep up with the rate of inflation. Earlier I wrote, “It may be a fool’s errand to try to predict the sustainability of the current Distribution.” Regardless, this particular fool has decided to predict that the Distribution will not only be sustained, but will gradually be increased and earn a rating of Buy.