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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2000 Commission File No. 001-14625
HOST MARRIOTT CORPORATION
Maryland 53-0085950
(State of Incorporation) (I.R.S. Employer Identification
Number)
10400 Fernwood Road
Bethesda, Maryland 20817
(301) 380-9000
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange
Title of each class on which registered
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Common Stock, $.01 par value (234,022,707
shares New York Stock Exchange
outstanding as of March 12, 2001) Chicago Stock Exchange
Purchase Share rights for Series A Junior
Participating Pacific Stock Exchange
Preferred Stock, .01 par value Philadelphia Stock Exchange
Class A Preferred Stock, $.01 par value
(4,160,000 million
shares outstanding as of March 12, 2001)
Class B Preferred Stock, $.01 par value
(4,000,000 million
shares outstanding as of March 12, 2001)
The aggregate market value of shares of common stock held by non-affiliates
at March 12, 2001 was $2,496,000,000.
Indicate by check mark whether the registrant (i) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months, and (ii) has been subject to such filing
requirements for the past 90 days. Yes [X] No [_]
Document Incorporated by Reference
Notice of 2001 Annual Meeting and Proxy Statement
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FORWARD-LOOKING STATEMENTS
This annual report on Form 10-K and the information incorporated by
reference herein include forward-looking statements. We have based these
forward-looking statements on our current expectations and projections about
future events. We identify forward-looking statements in this annual report
and the information incorporated by reference herein by using words or phrases
such as "anticipate", "believe", "estimate", "expect", "intend", "may be",
"objective", "plan", "predict", "project" and "will be" and similar words or
phrases, or the negative thereof.
These forward-looking statements are subject to numerous assumptions, risks
and uncertainties. Factors which may cause our actual results, performance or
achievements to be materially different from any future results, performance
or achievements expressed or implied by us in those statements include, among
others, the following:
. national and local economic and business conditions that will affect,
among other things, demand for products and services at our hotels and
other properties, the level of room rates and occupancy that can be
achieved by such properties and the availability and terms of financing;
. our ability to maintain the properties in a first-class manner,
including meeting capital expenditure requirements;
. our ability to compete effectively in areas such as access, location,
quality of accommodations and room rate structures;
. our ability to acquire or develop additional properties and the risk
that potential acquisitions or developments may not perform in
accordance with expectations;
. our degree of leverage which may affect our ability to obtain financing
in the future or compliance with current debt covenants;
. changes in travel patterns, taxes and government regulations which
influence or determine wages, prices, construction procedures and costs;
. government approvals, actions and initiatives including the need for
compliance with environmental and safety requirements, and change in
laws and regulations or the interpretation thereof;
. our ability to satisfy complex rules in order for us to qualify as a
REIT for federal income tax purposes, for the operating partnership to
qualify as a partnership for federal income tax purposes, and in order
for HMT Lessee LLC to qualify as a taxable REIT subsidiary for federal
income tax purposes, and our ability to operate effectively within the
limitations imposed by these rules; and
. other factors discussed below under the heading "Risk Factors" and in
other filings with the Securities and Exchange Commission.
Although we believe the expectations reflected in our forward-looking
statements are based upon reasonable assumptions, we can give no assurance
that we will attain these expectations or that any deviations will not be
material. Except as otherwise required by the federal securities laws, we
disclaim any obligations or undertaking to publicly release any updates or
revisions to any forward-looking statement contained in this annual report on
Form 10-K and the information incorporated by reference herein to reflect any
change in our expectations with regard thereto or any change in events,
conditions or circumstances on which any such statement is based.
Items 1 & 2. Business and Properties
We are a self-managed and self-administered real estate investment trust, or
"REIT," owning full service hotel properties. We were formed as a Maryland
corporation in 1998, under the name HMC Merger Corporation, as a wholly owned
subsidiary of Host Marriott Corporation, a Delaware corporation, in connection
with its efforts to reorganize its business operations to qualify as a REIT
for federal income tax purposes. As part of this reorganization, which we
refer to as the REIT conversion, and which is described below in more detail,
on December 29, 1998, we merged with Host Marriott and changed our name to
Host Marriott Corporation, or
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"Host REIT". As a result, we have succeeded to the hotel ownership business
formerly conducted by Host Marriott. We conduct our business as an umbrella
partnership REIT, or UPREIT, through Host Marriott, L.P., or "Host LP" or the
"operating partnership", a Delaware limited partnership, of which we are the
sole general partner and in which we held approximately 78% of the outstanding
partnership interests at December 31, 2000. On February 7, 2001, certain
minority partners converted 12.5 million OP Units to common shares and
immediately sold them to an underwriter for sale on the open market. As a
result, we now own approximately 82% of Host LP.
Together with the operating partnership we were formed primarily to
continue, in an UPREIT structure, the full service hotel ownership business
formerly conducted by Host Marriott and its subsidiaries. We use the name Host
Marriott to refer to Host Marriott Corporation, the Delaware corporation,
prior to the REIT conversion. Our primary business objective is to provide
superior total returns to our shareholders through a combination of dividends,
appreciation in net asset value per share, and growth in funds from operations
per share, or FFO as defined by the National Association of Real Estate
Investment Trusts (i.e., net income computed in accordance with generally
accepted accounting principles, excluding gains or losses from debt
restructuring and sales of properties, plus real estate-related depreciation
and amortization, and after adjustments for unconsolidated partnerships and
joint ventures), by focusing on aggressive asset management and disciplined
capital allocation. In addition, we endeavor to:
. maximize the value of our existing portfolio through an aggressive asset
management program which focuses on selectively improving and expanding
our hotels;
. acquire additional existing and newly developed upscale and luxury full
service hotels in targeted markets primarily focusing on downtown hotels
in core business districts in major metropolitan markets and select
airport and resort/convention locations;
. complete our current development and expansion program, and selectively
develop and construct new upscale and luxury full service hotels;
. regenerate capital through opportunistic asset sales and selectively
dispose of noncore assets;
. opportunistically pursue other real estate investments.
Our operations are conducted solely through the operating partnership and
its subsidiaries. As of March 12, 2001, we own 122 hotels, containing
approximately 58,000 rooms, located throughout the United States and Canada.
The hotels are generally operated under the Marriott, Ritz-Carlton, Four
Seasons, Hilton, Hyatt and Swissotel brand names. These brand names are among
the most respected and widely recognized brand names in the lodging industry.
We are the sole general partner of the operating partnership and manage all
aspects of the business of the operating partnership. This includes decisions
with respect to:
. sales and purchases of hotels;
. the financing of the hotels;
. the leasing of the hotels; and
. capital expenditures for the hotels subject to the terms of the leases
and the management agreements.
We are managed by our Board of Directors and have no employees who are not
also employees of the operating partnership.
Due to certain tax laws restricting REITs from deriving revenues directly
from the operations of hotels, during 1999 and 2000 the hotels were leased by
the operating partnership and its subsidiaries to third party lessees,
including primarily Crestline Capital Corporation, or "Crestline", and its
subsidiaries, and managed on behalf of the lessees by nationally recognized
hotel operators such as Marriott International, Four Seasons, Hyatt,
Interstate and other companies.
2
The REIT Modernization Act, which was enacted in December 1999, amended the
tax laws to permit REITs, effective January 1, 2001, (i) to lease hotels to a
subsidiary that qualifies as a taxable REIT subsidiary, or "TRS," and (ii) to
own all of the voting stock of such TRS. Effective January 1, 2001, we
completed a transaction with Crestline for the termination of the Crestline
leases through the purchase of the entities, or "Crestline Lessee Entities",
owning the leasehold interests with respect to 116 of our full-service hotels
by a wholly-owned TRS of Host LP for $207 million in cash, including
approximately $6 million of legal fees and transfer taxes. In connection
therewith, we recorded a non-recurring, pre-tax loss of $207 million during
the fourth quarter of 2000, net of an $82 million tax benefit which we have
recorded as a deferred tax asset, because for income tax purposes, the
acquisition is recorded as an asset that will be amortized over the remaining
term of the leases. In addition, the existing working capital of the
respective hotels, valued at $90 million as of December 31, 2000, including
the existing obligations under the working capital note, was transferred from
Crestline to the TRS. Crestline remains the lessee of one of our full-service
properties. The transaction simplifies our corporate structure, enables us to
better control our portfolio of hotels, and is expected to be accretive to
future earnings and cash flows, as the lessee entities have recorded
substantial earnings and cash flow in 2000 and 1999, although there can be no
guarantee that such results will continue. The TRS will pay rent to the
operating partnership, and will be obligated to the managers for the fees and
costs reimbursements under the management agreements. On a consolidated basis,
our results of operations beginning in 2001 will reflect the revenues and
expenses generated by these hotels rather than rental income.
The economic trends affecting the hotel industry and the overall economy
will be a major factor in generating growth in hotel revenues, and the
abilities of the managers will also have a material impact on future hotel
level sales and operating profit growth. Our hotel properties may be impacted
by inflation through its effect on increasing costs, as well as recent
increases in energy costs. Unlike other real estate, hotels have the ability
to change room rates on a daily basis, so the impact of higher inflation often
can be passed on to customers, particularly in the transient segment. However,
an economic downturn may affect the managers' ability to increase room rates.
Through our strategic restructuring of our balance sheet, nearly 95% of our
debt bears interest at fixed rates, which mitigates the impact of rising
interest rates.
We endeavor to selectively acquire upscale and luxury full service hotel
lodging properties that complement our existing portfolio of high-end hotels.
Based upon data provided by Smith Travel Research, we believe that our full
service hotels outperform the industry's average occupancy rate by a
significant margin, averaging 77.5% and 77.7% occupancy for fiscal years 2000
and 1999 compared to a 70.5% and 68.8% average occupancy for our competitive
set for 2000 and 1999, respectively. "Our competitive set" refers to hotels in
the upscale and luxury full service segment of the lodging industry, the
segment which is most representative of our full service hotels, and consists
of Crowne Plaza; Doubletree; Hyatt; Hilton; Radisson; Renaissance; Sheraton;
Westin; and Wyndham.
The relatively high occupancy rates of our hotels, along with increased
demand for full-service hotel rooms, have allowed the managers of our hotels
to increase average daily room rates by selectively raising room rates for
certain types of bookings and by minimizing, in specified cases, discounted
group business, replacing it with higher-rate group and transient business.
For the year ended December 31, 2000, as a percentage of total rooms sold,
transient business comprised 59%, group business comprised 38%, and contract
business comprised less than 3%. As a result, on a comparable basis, room
revenue per available room ("REVPAR") for our full-service properties
increased approximately 6.6% in 2000.
In addition to external growth generated by new acquisitions, we intend to
aggressively manage our existing assets by carefully and periodically
reviewing our portfolio to identify opportunities to selectively enhance
operating performance through major capital improvements.
3
Business Strategy
Our primary business objective is to provide superior total returns to our
shareholders through a combination of dividends, appreciation in net asset
value per share, and growth in FFO per share. In order to achieve this
objective we employ the following strategies:
. acquire existing upscale and luxury full-service hotels as market
conditions permit, including Marriott and Ritz-Carlton hotels and other
hotels operated by leading management companies such as Four Seasons,
Hyatt, and Hilton which satisfy our investment criteria, which
acquisitions may be completed through various means including
transactions where we are already a partner, public and private
portfolio transactions, and by entering into joint ventures when we
believe our return on investment will be maximized by doing so;
. complete the development of our existing pipeline, including the 295-
room Ritz-Carlton, Naples, Golf Resort, the 50,000 square-foot spa also
at the Ritz-Carlton, Naples, and the 200-room expansion of the Memphis
Marriott, as well as selectively expand existing properties and develop
new upscale and luxury full-service hotels, operated by leading
management companies, which satisfy our investment criteria and employ
transaction structures which mitigate our risk;
. maximize the value of our existing portfolio through aggressive asset
management, including completing selective capital improvements and
expansions that are designed to increase gross hotel sales or improve
operations; and
. regenerate capital through opportunistic asset sales and selectively
dispose of noncore assets, including older assets with significant
capital needs, assets that are at risk given potential new supply, or
assets in slower-growth markets.
The availability of suitable acquisition candidates that complement our
portfolio of high-end hotels has been limited recently due to market
conditions. Most products in the market consist of smaller, suburban hotels,
and as many luxury hotel owners are choosing to hold on to their assets at
this time, competition for the limited number of available properties in the
top markets has caused them to be generally not price competitive. However, we
believe that acquisitions that meet our stringent criteria will provide the
highest and best use of our capital as they become available.
Our acquisition strategy focuses on the upscale and luxury full-service
segments of the market, which we believe will continue to offer opportunities
over time to acquire assets at attractive multiples of cash flow and at
discounts to replacement value. Our acquisition criteria continues to focus
on:
. properties in difficult to duplicate locations with high costs to
prospective competitors, such as hotels located in urban, airport and
resort/convention locations;
. premium brand names, such as Marriott, Ritz-Carlton, Four Seasons,
Hilton, and Hyatt;
. underperforming hotels which can be improved by conversion to high
quality brands; and
. properties which are operated by leading management companies such as
Marriott, Ritz-Carlton, Four Seasons, Hilton, and Hyatt.
In recent years, we have increased our pool of potential acquisition
candidates to include select non-Marriott and non-Ritz-Carlton branded hotels
which offer long-term growth potential, have high quality managers and are
consistent with the overall quality of our portfolio. For example, in December
1998 we acquired a portfolio of hotels consisting of two Ritz-Carlton, two
Four Seasons, one Grand Hyatt, three Hyatt Regency and four Swissotel
properties.
Our current portfolio of hotels are operated under the Marriott, Ritz-
Carlton, Four Seasons, Hilton, Hyatt and Swissotel brand names. In general,
based upon data provided by Smith Travel Research, we believe that these
premium brands have consistently outperformed the industry. Demonstrating the
strength of our portfolio, our comparable properties, consisting of 118
hotels, owned directly or indirectly by us for the entire 2000 and 1999 fiscal
years, respectively (excluding one property that sustained substantial fire
damage during 2000, two
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properties where significant expansion at the hotels affected operations, and
the Tampa Waterside Marriott, which opened in February 2000), generated a 32%
and 33% REVPAR premium over our competitive set for fiscal years 2000 and
1999, respectively.
Based on the strength of our portfolio of premium hotels, management
anticipates that any additional full service properties acquired in the future
and converted from other brands to one of our premium brands should achieve
increases in occupancy rates and average room rates as the properties begin to
benefit from brand name recognition, and national reservation systems and
group sales organizations. Since the beginning of fiscal year 1994, we have
acquired 15 hotels that we have converted to premium brands.
We believe we are well qualified to pursue our acquisition and development
strategy. Management has extensive experience in acquiring and financing
lodging properties and believes its industry knowledge, relationships and
access to market information provide a competitive advantage with respect to
identifying, evaluating and acquiring hotel assets.
Our asset management team, which is comprised of professionals with
exceptional industry knowledge and relationships, focuses on maximizing the
value of our existing portfolio through (i) monitoring property and brand
performance; (ii) pursuing expansion and repositioning opportunities; (iii)
overseeing capital expenditure budgets and forecasts; (iv) assessing return on
investment expenditure opportunities; and (v) analyzing competitive supply
conditions in each market.
In September 1999, our board of directors approved the repurchase, from time
to time on the open market and/or in privately negotiated transactions, of up
to 22 million of the outstanding shares of our common stock, operating
partnership units, or Convertible Preferred Securities convertible into a like
number of shares of common stock. Through March 2000, we spent, in the
aggregate, approximately $150 million, $62 million in 2000, on repurchases for
a total reduction of 16.2 million equivalent shares on a fully diluted basis.
We have not made any repurchases since that time, but will continue to
evaluate the stock repurchase program based on changes in market conditions
and the stock price.
The REIT Conversion
During 1998, Host Marriott and its subsidiaries and affiliates consummated a
series of transactions intended to enable us to qualify as a REIT for federal
income tax purposes. As a result of these transactions, the hotels formerly
owned by Host Marriott and its subsidiaries and other affiliates are now owned
by the operating partnership and its subsidiaries, the operating partnership
and its subsidiaries leased substantially all of these hotels to Crestline
Capital Corporation, and Marriott International and other hotel operators
conducted the day to day management of the hotels pursuant to management
agreements with Crestline. We have elected to be treated as a REIT for federal
income tax purposes effective January 1, 1999. The important transactions
comprising the REIT conversion are summarized below.
During 1998, Host Marriott reorganized its hotels and certain other assets
so that they were owned by the operating partnership and its subsidiaries.
Host Marriott and its subsidiaries received a number of OP Units equal to the
number of then outstanding shares of Host Marriott common stock, and the
operating partnership and its subsidiaries assumed substantially all of the
liabilities of Host Marriott and its subsidiaries. As a result of this
reorganization and the related transactions described below, we are the sole
general partner in the operating partnership and as of December 31, 2000 held
approximately 78% of the outstanding OP Units. The operating partnership and
its subsidiaries conduct our hotel ownership business. OP Units owned by
holders other than us are redeemable at the option of the holder, generally
commencing one year after the issuance of their OP Units. Upon redemption of
an OP Unit, the holder would receive from the operating partnership cash in an
amount equal to the market value of one share of our common stock. However, in
lieu of a cash redemption by the operating partnership, we have the right to
acquire any OP Unit offered for redemption directly from the holder thereof in
exchange for either one share of our common stock or cash in an amount equal
to the market value of one share of our common stock. On February 7, 2001,
certain minority partners converted 12.5 million OP Units
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to common shares and immediately sold them to an underwriter for sale on the
open market. As a result, we now own approximately 82% of Host LP.
In connection with the REIT conversion, two taxable corporations were formed
in which the operating partnership owns approximately 95% of the economic
interest but none of the voting interest. We refer to these two subsidiaries
as the non-controlled subsidiaries. The non-controlled subsidiaries hold
various assets and related liabilities totaling $354 million and $245 million,
respectively, at December 31, 2000, which were originally contributed by Host
Marriott and its subsidiaries to the operating partnership, but whose direct
ownership by the operating partnership or its other subsidiaries generally
would jeopardize our status as a REIT and the operating partnership's status
as a partnership for federal income tax purposes. These assets primarily
consist of controlling interests in partnerships or other interests in three
full-service hotels which are not leased, and specified furniture, fixtures
and equipment--also known as FF&E--used in the hotels. The operating
partnership has no control over the operation or management of the hotels or
other assets owned by the non-controlled subsidiaries. The Host Marriott
Statutory Employee/Charitable Trust acquired all of the voting common stock of
each non-controlled subsidiary, representing, in each case, the remaining
approximately 5% of the total economic interests in each non-controlled
subsidiary. The beneficiaries of the Employee/Charitable Trust are a trust
formed for the benefit of specified employees of the operating partnership and
the J. Willard and Alice S. Marriott Foundation. During February 2001, our
Board of Directors approved the acquisition by our TRS of the interests in the
non-controlled subsidiaries held by the Host Marriott Statutory
Employee/Charitable Trust for approximately $2 million in cash. If the
transaction is consummated, and there can be no assurance that it will be
consummated, on a consolidated basis our results of operations will reflect
the revenues and expenses generated by the two taxable corporations, our
consolidated balance sheets will include the various assets and related
liabilities held by the two taxable corporations. Approximately $26 million of
the subsidiaries' debt principal matures during 2001. In addition, we will
consolidate three additional full-service properties, one located in Missouri,
and two located in Mexico City, Mexico.
Under the terms of the leases, the lessees pay rent to the operating
partnership and its subsidiaries generally equal to the greater of (1) a
specified minimum rent or (2) rent based on specified percentages of different
categories of aggregate sales at the relevant hotels. Generally, there is a
separate lessee for each hotel property or there is a separate lessee for each
group of hotel properties that has separate mortgage financing or has owners
in addition to the operating partnership and its wholly owned subsidiaries.
The lessees for all but four of our hotels are limited liability companies,
formerly wholly-owned subsidiaries of Crestline, each of whose purpose is
limited to acting as lessee under an applicable lease. The limited liability
company agreements provide that the lessee has full control over the
management of the business of the lessee, except with respect to certain
decisions for which the consent of other members or the hotel manager is
required. In addition, Marriott International or its appropriate subsidiary
has a non-economic voting interest on specific matters pertaining to hotels
managed by Marriott International or its subsidiaries.
The leases, through the sales percentage rent provisions, are designed to
allow us and our subsidiaries that own our properties to participate in any
growth above specified levels in room sales at the hotels, which management
expects can be achieved through increases in room rates and occupancy levels.
Although the economic trends affecting the hotel industry will be the major
factor in generating growth in revenues, the abilities of the lessees and the
managers will also have a material impact on future sales growth. In 2001,
with 116 of our full-service hotels leased to our wholly-owned TRS, any
increases in future earnings and cash flows at the hotels will have a direct,
positive effect on our consolidated earnings and cash flows. Our leases have
terms ranging from seven to ten years.
In December 1999, the REIT Modernization Act was enacted, with most
provisions effective for taxable years beginning after December 31, 2000,
which significantly amends the REIT laws applicable to us. Under the
applicable sections of the Internal Revenue Code, as amended by the REIT
Modernization Act, and the pcorresponding regulations that govern the federal
income tax treatment of REITs and their shareholders, a REIT must meet certain
tests regarding the nature of its income and assets, as follows.
Qualification of an entity as a taxable REIT subsidiary. Beginning January
1, 2001, a REIT is permitted to own up to 100% of the voting stock of one or
more taxable REIT subsidiaries subject to limitations on the
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value of those subsidiaries. The rents received from such subsidiaries will
not be disqualified from being "rents from real property" by reason of the
operating partnership's ownership interest in the subsidiary so long as the
property is operated on behalf of the taxable REIT subsidiary by an "eligible
independent contractor." This enables the operating partnership to lease its
hotels to wholly-owned taxable subsidiaries if the hotels are operated and
managed on behalf of such subsidiaries by an independent third party. Under
the REIT Modernization Act, taxable REIT subsidiaries are subject to federal
income tax.
Income tests applicable to REITs. In order to maintain qualification as a
REIT, two gross income requirements must be satisfied on an annual basis.
. At least 75% of gross income, excluding gross income from prohibited
transactions, must be derived directly or indirectly from investments
relating to real property, including "rents from real property", gains
on the disposition of real estate, dividends paid by another REIT and
interest on obligations secured by mortgages on real property or on
interests in real property, or from some types of temporary investments.
. At least 95% of gross income, excluding gross income from prohibited
transactions, must be derived from any combination of income qualifying
under the 75% test, dividends, interest, some payments under hedging
instruments, and gain from the sale or disposition of stock or
securities, including some hedging instruments.
Rents received from a TRS will qualify as "rents from real property" as long
as the leases are true leases and the property is a qualified lodging facility
operated by an eligible independent contractor. If rent attributable to
personal property leased in connection with a lease of real property is
greater than 15% of the total rent received under the lease (based on relative
fair market values), then the portion of rent attributable to such personal
property will not qualify as "rents from real property."
Asset tests applicable to REITs. At the close of each quarter of its taxable
year, a REIT must satisfy four tests relating to the nature of its assets.
. At least 75% of the value of total assets must be represented by real
estate assets. Our real estate assets include, for this purpose, our
allocable share of real estate assets held by the operating partnership
and its non-corporate subsidiaries, as well as stock or debt instruments
held for less than one year purchased with the proceeds of a stock or
long-term debt offering, cash and government securities.
. No more than 25% of total assets may be represented by securities other
than those in the 75% asset class.
. Of the investments included in the 25% asset class, the value of any one
issuer's securities may not exceed 5% of total assets, and a REIT may
not own more than 10% of either the outstanding voting securities or the
value of the outstanding securities of any one issuer. Beginning in
2001, this limit does not apply to securities of a TRS.
.Not more than 20% of total assets may be represented by securities of
taxable REIT subsidiaries.
Recent Acquisitions, Developments and Dispositions
The pace of acquisitions changed significantly in 2000 and 1999 from the
previous years. After three years of acquisitions numbering 36, 17, and 24
full service hotels for 1998, 1997 and 1996, respectively, our recent
acquisitions were limited due to the availability of suitable acquisition
candidates that complement our portfolio of high-end hotels, increased price
competition and capital limitations due to weak equity markets for REIT
stocks. We believe that acquisitions that meet our stringent criteria will
provide the highest and best use of our capital. Future acquisitions are
likely to be either public or private portfolio transactions, and transactions
where we already hold minority partnership interests. In addition, we believe
we can successfully add properties to our portfolio through partnership
arrangements with either the seller of the property or the incoming managers.
During 2000, we acquired a non-controlling partnership interest in the 772-
room J.W. Marriott Hotel in Washington, D.C. in which we already held a 17%
limited partner interest for $40 million and have the option to
7
purchase an additional 44% limited partnership interest. During 1999, our
acquisitions were limited to the acquisition of minority interests in two
hotels, where we had previously acquired the controlling interests, for a
total consideration of approximately $14 million. We have the financial
flexibility and, due to our existing private partnership investment portfolio,
the administrative infrastructure in place to accommodate such arrangements.
We view this ability as a competitive advantage and expect to enter into
similar arrangements to acquire additional properties in the future.
Also during 2000, we, through our affiliates, formed a joint venture with
Marriott International, the "Courtyard Joint Venture", to acquire the
partnership interests in Courtyard by Marriott Limited Partnership and
Courtyard by Marriott II Limited Partnership for an aggregate payment of
approximately $372 million plus interest and legal fees, of which we paid
approximately $79 million. The Courtyard Joint Venture acquired 120 Courtyard
by Marriott properties totaling 17,554 rooms. The joint venture financed the
acquisition with mezzanine indebtedness borrowed from Marriott International
and with cash and other assets contributed by our affiliates and Marriott
International. The investment was consummated pursuant to a litigation
settlement involving the two limited partnerships, in which we, through our
affiliates, served as general partner, rather than as a strategic initiative.
During 2000, we focused our energies on increasing the value of our current
portfolio with selective investments, expansions and new developments. We plan
to complete our current pipeline of development activity, and selectively
expand existing properties and develop new upscale and luxury full-service
hotels that complement our quality portfolio in the future. We intend to
target only development projects that show promise of providing financial
returns that represent a premium to returns from acquisitions. The largest of
our recent development projects has been the construction of a 717-room full
service Marriott hotel adjacent to the convention center in downtown Tampa,
Florida. The hotel, which was completed and opened for business on February
19, 2000, includes 45,000 square feet of meeting space, three restaurants and
a 30 slip marina as well as many other amenities. The total development cost
of the property was approximately $104 million, excluding a $16 million tax
subsidy provided by the City of Tampa.
At the Orlando Marriott, the addition of a 500-room tower and 15,000 square
feet of meeting space was placed in service in June 2000 at an approximate
development cost of $88 million, making it the largest hotel in the Marriott
system with 2000 rooms. We also have renovated the golf course, added a multi-
level parking deck, and upgraded and expanded several restaurants.
Also under development is a 50,000 square-foot world-class spa at the Ritz-
Carlton, Naples, at an estimated development cost of $23 million, scheduled
for completion in March 2001. A 295-room Ritz-Carlton Golf Resort in Naples is
in process approximately 2 miles from the Ritz-Carlton, Naples, at an
estimated development cost of $75 million, with expected completion during the
fourth quarter of 2001. The golf resort will also host 15,000 square-feet of
meeting space, four food and beverage outlets, and full access to 36 holes of
a Greg Norman designed golf course surrounding the hotel. The newly created
golf resort, as well as the new spa facility will operate in concert with the
463-room Ritz-Carlton, Naples and on a combined basis will offer travelers an
unmatched resort experience. Further, given the close proximity of the
properties to each other, we will benefit from cost efficiencies and the
ability to capture larger groups.
We expect to begin a 200-room expansion of the Memphis Marriott, which is
located adjacent to a newly-renovated convention center. The property was
converted to the Marriott brand upon acquisition in 1998 to capitalize on
Marriott's brand name recognition. The project is expected to be completed in
2002 at a total development cost of approximately $16 million.
Also during 2000, we focused on aggressively managing our existing assets,
including completing approximately $21 million in projects that are expected
to provide internal rates of return in excess of 24%. Major projects completed
during the year include a renovation of the guest rooms and public space at
the Boston Marriott Newton, a conversion of a rooftop ballroom to high-end
catering and meeting space at the Marina Beach Marriott, and a conversion of
lounge space to flexible meeting space at the Ft. Lauderdale Marina Marriott.
8
We also accomplished various projects to enhance revenues, control expenses,
and enhance technology at the hotels. During 2000, we added approximately
36,000 square feet of meeting space and 200 premium-priced rooms to the
portfolio, and approved new parking contracts at four of our properties. We
authorized utility conservation efforts including energy management strategies
at five properties, the closing of several unprofitable food and beverage
outlets, and the development of a program to review labor models. We also
approved internet connectivity solutions and in-room portal and entertainment
options to better meet the technology needs of our customers.
Through subsidiaries we currently own four Canadian properties, with 1,636
rooms. International acquisitions are limited due to the difficulty in meeting
our stringent return criteria. However, we intend to continue to evaluate
acquisition opportunities in Canada and other international locations. The
overbuilding and economic stress experienced in some European and Pacific Rim
countries may eventually lead to additional international acquisition
opportunities. We will acquire international properties only when we believe
such acquisitions achieve satisfactory returns after adjustments for currency
and country risks.
We will also consider from time to time selling hotels that do not fit our
long-term strategy, or otherwise meet our ongoing investment criteria,
including for example, hotels in some suburban locations, hotels that require
significant future capital improvement and other underperforming assets. The
net proceeds from any such sales will be reinvested in upscale and luxury
hotels more consistent with our strategy or otherwise applied in a manner
consistent with our investment strategy (which may include the purchase of
securities) at the time of sale. We did not dispose of any hotels during 2000.
The following table summarizes our 1999 dispositions (in millions, except in
number of rooms):
Pre-tax
Total Gain (Loss)
Property Location Rooms Consideration on Disposal
- -------- ---------------- ----- ------------- -----------
Minneapolis/Bloomington
Marriott.................... Bloomington, MN 479 $ 35 $ 10
Saddle Brook Marriott........ Saddle Brook, NJ 221 15 3
Marriott's Grand Hotel Resort
and Golf Club............... Point Clear, AL 306 28 (2)
The Ritz-Carlton, Boston..... Boston, MA 275 119 15
El Paso Marriott............. El Paso, TX 296 1 (2)
Hotel Lodging Industry
The lodging industry posted moderate gains in 2000 and 1999 as higher
average daily rates drove strong increases in REVPAR, which measures daily
room revenues generated on a per room basis. This does not include food and
beverage or other ancillary revenues generated by the property. REVPAR
represents the product of the average daily room rate charged and the average
daily occupancy achieved. Previously, the upper upscale sector of the lodging
industry benefited from a favorable supply/demand imbalance, driven in part by
low construction levels combined with high gross domestic product, or GDP,
growth. However, during 1998 through 2000, supply moderately outpaced demand,
causing slight declines in occupancy rates in the sector in which we operate.
According to Smith Travel Research, occupancy in our brands' competitive set
consisting of Crowne Plaza; Doubletree; Hyatt; Hilton; Radisson; Renaissance;
Sheraton; Westin; and Wyndham increased 2.5% for the year ended December 31,
2000. Within our competitive set, the slight increase in occupancy during 2000
was reinforced by a 5.0% increase in average daily rate which generated a 7.4%
increase in REVPAR.
The current amount of excess supply growth in the upper-upscale and luxury
portions of the full-service segment of the lodging industry is beginning to
moderate and has been much less severe than that experienced in the lodging
industry in other economic downturns, in part because of the greater financial
discipline and lending practices imposed by financial institutions and public
markets today relative to those during the late 1980's.
The occupancy rates and average daily rates commanded by our properties have
exceeded both the industry as a whole and the upper-upscale and luxury full
service segment. The attractive locations of our hotels, the
9
limited availability of new building sites for new construction of competing
full service hotels, and the lack of availability of financing for new full
service hotels has allowed us to maintain REVPAR and average daily rate
premiums over our competitors in these service segments. For our comparable
hotels, average daily rates increased 6.3% in 2000. The increase in average
daily rate helped generate a strong increase in comparable hotel REVPAR of
6.6% for the same period. Furthermore, because our lodging operations have a
high fixed-cost component, increases in REVPAR generally yield greater
percentage increases in our earnings and cash flows. As a result of our
acquisition of the Crestline Lessee Entities with respect to 116 of our full-
service hotels, effective January 1, 2001 any change in earnings and cash flow
levels at those properties (which formerly were leased to Crestline) will have
a direct effect on our consolidated earnings and cash flows.
The relative balance between supply and demand growth may be influenced by a
number of factors including growth of the economy, interest rates, unique
local considerations and the relatively long lead time to develop urban,
convention and resort hotels. We believe that growth in room supply in upper-
upscale sector in which we operate will continue to exceed room demand growth
through 2001. However, we believe that during 2001 and 2002, supply growth
will begin to decrease, as the lack of availability of development financing
slows new construction. We further believe that demand growth will begin to
increase during 2001 and 2002. However, some economists are predicting an
economic slowdown in 2001, which could lead to substantial decreases in
demand. There can be no assurance that growth in supply will decrease, or that
REVPAR and EBITDA will continue to improve.
Hotel Lodging Properties
Our lodging portfolio, as of March 12, 2001, consists of 122 upscale and
luxury full service hotels containing approximately 58,000 rooms. Our hotel
lodging properties represent quality upscale and luxury assets in the full
service segment. Our hotel properties are currently operated under various
premium brands including Marriott, Ritz-Carlton, Four Seasons, Hilton, Hyatt,
and Swissotel brand names.
Our hotels average approximately 478 rooms. Thirteen of our hotels have more
than 750 rooms. Hotel facilities typically include meeting and banquet
facilities, a variety of restaurants and lounges, swimming pools, gift shops
and parking facilities. Our hotels primarily serve business and pleasure
travelers and group meetings at locations in urban, airport, resort convention
and suburban locations throughout the United States. The properties are
generally well situated in locations where there are significant barriers to
entry by competitors including downtown areas of major metropolitan cities, at
airports and resort/convention locations where there are limited or no
development sites. The average age of the properties is 17 years, although
many of the properties have had substantial renovations or major additions.
To maintain the overall quality of our lodging properties, each property
undergoes refurbishments and capital improvements on a regularly scheduled
basis. Typically, refurbishing has been provided at intervals of five years,
based on an annual review of the condition of each property. For fiscal years
2000, 1999 and 1998 we spent $230 million, $197 million and $165 million,
respectively, on capital improvements to existing properties. As a result of
these expenditures, we expect to maintain high quality rooms, restaurants and
meeting facilities at our properties.
In addition to acquiring and maintaining superior assets, a key part of our
strategy is to have the hotels managed by leading management companies. As of
March 12, 2001, 100 of our 122 hotel properties were managed by subsidiaries
of Marriott International as Marriott or Ritz-Carlton brand hotels and an
additional nine hotels are part of Marriott International's full-service hotel
system through franchise agreements. The remaining hotels are managed by
leading management companies including Four Seasons, Hilton, and Hyatt. Our
properties have reported annual increases in REVPAR since 1993. Based upon
data provided by Smith Travel Research, our comparable properties, as
previously defined, have an approximate 5 and 6 percentage point occupancy
premium and an approximate 32% and 33% REVPAR premium over the competitive set
for fiscal years 2000 and 1999, respectively.
10
The chart below sets forth performance information for our comparable
properties:
2000 1999
------- -------
Comparable Full-Service Hotels(1)
Number of properties........................................ 118 118
Number of rooms............................................. 53,899 53,899
Average daily rate.......................................... $157.96 $148.61
Occupancy percentage........................................ 78.2% 77.9%
REVPAR...................................................... $123.50 $115.82
REVPAR % change............................................. 6.6% --
- --------
(1) Consists of 118 properties owned, directly or indirectly, by us for the
entire 2000 and 1999 fiscal years, respectively, excluding one property
that sustained substantial fire damage during 2000, two properties where
significant expansion at the hotels affected operations, and the Tampa
Waterside Marriott, which opened in February 2000. These properties, for
the respective periods, represent the "comparable properties."
The chart below presents some performance information for our entire
portfolio of full-service hotels:
1999 1998
2000 (1) (2)
------- ------- -------
Number of properties................................. 122 121 126
Number of rooms...................................... 58,373 57,086 58,445
Average daily rate................................... $157.93 $149.51 $140.36
Occupancy percentage................................. 77.5% 77.7% 77.7%
REVPAR............................................... $122.43 $116.13 $109.06
- --------
(1) The property statistics and operating results include operations for the
Minneapolis/Bloomington Marriott, the Saddle Brook Marriott, Marriott's
Grand Hotel Resort and Golf Club, The Ritz-Carlton, Boston, and the El
Paso Marriott, which were sold at various times throughout 1999, through
the date of sale.
(2) The property statistics are as of December 31, 1998 and include 25
properties (9,965 rooms) acquired during that month.
The following table presents performance information for our comparable
properties by geographic region for 2000 and 1999:
As of December 31, 2000 Year Ended December 31, 2000 Year Ended December 31, 1999
------------------------ ----------------------------- -----------------------------
Number Average Number Average Average Average Average
Geographic Region of Hotels of Guest Rooms Occupancy Daily Rate REVPAR Occupancy Daily Rate REVPAR
----------------- --------- -------------- --------- ---------- -------- --------- ---------- --------
Atlanta................ 11 486 72.4% $ 158.54 $ 114.75 74.7% $ 148.78 $ 111.12
Florida................ 11 443 77.1 155.04 119.53 77.5 147.10 113.95
Mid-Atlantic........... 17 364 75.9 145.42 110.33 75.8 132.80 100.69
Midwest................ 14 358 75.2 141.00 106.03 76.6 132.75 101.71
New York............... 9 642 87.5 228.99 200.39 87.0 212.25 184.70
Northeast.............. 11 390 76.8 138.28 106.15 77.2 129.93 100.32
South Central.......... 18 506 78.1 125.55 98.01 76.5 123.44 94.45
Western................ 27 492 79.6 164.43 130.94 78.2 154.26 120.60
Average--All regions... 118 456 78.2 157.96 123.50 77.9 148.61 115.82
During 2000 and 1999, our foreign operations consisted of four full-service
hotel properties located in Canada. During 1998, our foreign operations
consisted of the four full-service properties in Canada as well as two full-
service properties in Mexico. During 2000, 1999, and 1998, respectively, 98%,
98%, and 97% of total revenues were attributed to sales within the United
States, and 2%, 2%, and 3% of total revenues were attributed to foreign
countries.
Prior to 1997, we divested certain limited-service hotel properties through
the sale and leaseback of 53 Courtyard properties and 18 Residence Inn
properties. The Courtyard and Residence Inn properties are subleased to
subsidiaries of Crestline under sublease agreements and are managed by
Marriott International under long-term management agreements. During 2000,
limited-service properties represented less than 1% of our EBITDA from hotel
properties. Lease revenues for the 71 properties that we sub-lease are
reflected in our revenues in 2000 and 1999, while gross property-level sales
were reflected previous to that.
11
During 2000, the Courtyard Joint Venture, which was formed by us (through
our non-controlled subsidiary) and Marriott International, acquired the
partnership interests in Courtyard by Marriott Limited Partnership and
Courtyard by Marriott II Limited Partnership, which collectively own 120
Courtyard by Marriott properties totaling 17,554 rooms. We own, through our
affiliates, a 50% non-controlling interest in the joint venture.
The following table sets forth the location and number of rooms of our 122
hotels as of March 1, 2001. All of the properties are currently leased to our
wholly-owned taxable REIT subsidiaries, unless otherwise indicated.
Location Rooms
- -------- -----
Arizona
Mountain Shadows Resort.......... 337
Scottsdale Suites................ 251
The Ritz-Carlton, Phoenix........ 281
California
Coronado Island Resort(1)........ 300
Costa Mesa Suites................ 253
Desert Springs Resort and Spa.... 884
Fullerton(1)..................... 224
Hyatt Regency, Burlingame........ 793
Manhattan Beach(1)(2)............ 380
Marina Beach(1).................. 370
Newport Beach.................... 586
Newport Beach Suites............. 250
Ontario Airport(2)............... 299
Sacramento Airport(3)............ 85
San Diego Marriott Hotel and
Marina(1)(2)(3)................. 1,355
San Diego Mission Valley(2)(3)... 350
San Francisco Airport............ 684
San Francisco Fisherman's Wharf.. 285
San Francisco Moscone Center(1).. 1,498
San Ramon(1)..................... 368
Santa Clara(1)................... 755
The Ritz-Carlton, Marina del
Rey(1).......................... 306
The Ritz-Carlton, San Francisco.. 336
Torrance......................... 487
Colorado
Denver Southeast(1).............. 590
Denver Tech Center............... 625
Denver West(1)................... 305
Marriott's Mountain Resort at
Vail............................ 349
Connecticut
Hartford/Farmington.............. 380
Hartford/Rocky Hill(1)........... 251
Florida
Fort Lauderdale Marina........... 580
Harbor Beach Resort(1)(2)(3)..... 637
Jacksonville(1).................. 256
Miami Airport(1)................. 782
Miami Biscayne Bay(1)............ 605
Orlando World Center............. 2,000
Palm Beach Gardens............... 279
Singer Island Hilton............. 223
Tampa Airport(1)................. 295
Tampa Waterside.................. 717
Tampa Westshore(1)............... 309
The Ritz-Carlton, Amelia Island.. 449
The Ritz-Carlton, Naples......... 463
Georgia
Atlanta Marriott Marquis......... 1,671
Atlanta Midtown Suites(1)........ 254
Atlanta Norcross................. 222
Location Rooms
- -------- -----
Georgia (continued)
Atlanta Northwest............... 401
Atlanta Perimeter(1)............ 400
Four Seasons, Atlanta........... 246
Grand Hyatt, Atlanta............ 438
JW Marriott Hotel at Lenox(1)... 371
Swissotel, Atlanta.............. 348
The Ritz-Carlton, Atlanta....... 447
The Ritz-Carlton, Buckhead...... 553
Illinois
Chicago/Deerfield Suites........ 248
Chicago/Downers Grove Suites.... 254
Chicago/Downtown Courtyard...... 334
Chicago O'Hare.................. 681
Chicago O'Hare Suites(1)........ 256
Swissotel, Chicago.............. 630
Indiana
South Bend(1)................... 300
Louisiana
New Orleans..................... 1,290
Maryland
Bethesda(1)..................... 407
Gaithersburg/Washingtonian
Center......................... 284
Massachusetts
Boston/Newton................... 430
Hyatt Regency, Cambridge........ 469
Swissotel, Boston............... 498
Michigan
The Ritz-Carlton, Dearborn...... 308
Detroit Livonia................. 224
Detroit Romulus................. 245
Detroit Southfield.............. 226
Minnesota
Minneapolis City Center......... 583
Minneapolis Southwest(2)(3)..... 320
Missouri
Kansas City Airport(1).......... 382
New Hampshire
Nashua.......................... 251
New Jersey
Hanover......................... 353
Newark Airport(1)............... 591
Park Ridge(1)................... 289
New Mexico
Albuquerque(1).................. 411
New York
Albany(2)(3).................... 359
New York Marriott Financial
Center......................... 504
New York Marriott Marquis(1).... 1,944
Marriott World Trade Center(1).. 820
Swissotel, The Drake............ 494
12
Location Rooms
- -------- -----
North Carolina
Charlotte Executive Park...... 298
Greensboro/Highpoint(1)....... 299
Raleigh Crabtree Valley....... 375
Research Triangle Park........ 224
Ohio
Dayton........................ 399
Oklahoma
Oklahoma City................. 354
Oklahoma City Waterford(2).... 197
Oregon
Portland...................... 503
Pennsylvania
Four Seasons, Philadelphia.... 364
Philadelphia Convention
Center(1)(2)................. 1,408
Philadelphia Airport(1)....... 419
Pittsburgh City Center(1)(2).. 400
Tennessee
Memphis....................... 403
Texas
Dallas/Fort Worth Airport..... 492
Dallas Quorum(1).............. 547
Houston Airport(1)............ 565
Houston Medical Center(1)..... 386
JW Marriott Houston........... 514
Plaza San Antonio(1).......... 252
Location Rooms
- -------- ------
Texas (continued)
San Antonio Rivercenter(1)... 1,001
San Antonio Riverwalk(1)..... 513
Utah
Salt Lake City(1)............ 510
Virginia
Dulles Airport(1)............ 368
Fairview Park................ 395
Hyatt Regency, Reston........ 514
Key Bridge(1)................ 588
Norfolk Waterside(1)......... 404
Pentagon City Residence Inn.. 300
The Ritz-Carlton, Tysons
Corner(1)................... 398
Washington Dulles Suites..... 254
Westfields................... 335
Williamsburg................. 295
Washington
Seattle SeaTac Airport....... 459
Washington, DC
Washington Metro Center...... 456
Canada
Calgary...................... 380
Toronto Airport(2)........... 423
Toronto Eaton Center(1)...... 459
Toronto Delta Meadowvale..... 374
------
TOTAL......................... 58,373
======
- --------
(1) The land on which this hotel is built is leased under one or more long-
term lease agreements.
(2) This property is not wholly owned by the operating partnership.
(3) This property is not leased to our TRS.
Investments in Affiliated Partnerships
We also maintain investments in several partnerships that own hotel
properties. Typically, the operating partnership and certain of its
subsidiaries manage our partnership investments and through a combination of
general and limited partnership interests, conduct the partnership services
business. As previously discussed, during 2000 we acquired a non-controlling
interest in the partnership that owns the J.W. Marriott Hotel in Washington,
D.C. In connection with the REIT conversion, Rockledge Hotel Properties and
Fernwood Hotel Assets were formed as non-controlled subsidiaries to hold
various assets, the direct ownership of which by us or the operating
partnership could jeopardize our status as a REIT or the operating
partnership's treatment as a partnership for federal income tax purposes. As
of December 31, 2000, substantially all of our general and limited partner
interests in partnerships owning 208 limited-service properties (including
nearly all of our interests in the Courtyard Joint Venture) and four full-
service hotels were held by our two non-controlled subsidiaries.
The partnership hotels are currently operated under management agreements
with Marriott International or its subsidiaries. As the general partner, we
oversee and monitor Marriott International and its subsidiaries' performance
pursuant to these agreements. Additionally, we are responsible for the payment
of partnership obligations from partnership funds, preparation of financial
reports and tax returns and communications with lenders, limited partners and
regulatory bodies. As the general partner, we are reimbursed for the cost of
providing these services subject to limitations in certain cases. Cash
distributions provided from these partnerships are tied to the overall
performance of the underlying properties and the overall level of debt.
Distributions from these partnerships to us were $1.3 million in 2000 and $2
million in 1998. There were no distributions in 1999. All debt of these
partnerships is nonrecourse to us and our subsidiaries, except that we are
contingently liable under various guarantees of debt obligations of certain of
the limited-service partnerships.
13
Marketing
As of March 1, 2001, 100 of our 122 hotel properties are managed by
subsidiaries of Marriott International as Marriott or Ritz-Carlton brand
hotels and an additional nine hotels are part of Marriott International's
full-service hotel system through franchise agreements. The remaining hotels
are managed primarily by Four Seasons, Hilton, Hyatt, and Swissotel.
We believe that our properties will continue to enjoy competitive advantages
arising from their participation in the Marriott, Ritz-Carlton, Four Seasons,
Hilton, Hyatt and Swissotel hotel systems. The national marketing programs and
reservation systems of each of these managers, as well as the advantages of
strong customer preference for these upper-upscale and luxury brands should
also help these properties to maintain or increase their premium over
competitors in both occupancy and room rates. Repeat guest business is
enhanced by guest rewards programs offered by Marriott, Ritz-Carlton, Hilton,
Hyatt, and Swissotel. Each of the managers maintains national reservation
systems that provide reservation agents with complete descriptions of the
rooms available and up-to-date rate information from the properties. Our
website (www.hostmarriott.com) currently permits users to connect to the
Marriott, Ritz-Carlton, Four Seasons, Hilton, Hyatt, and Swissotel reservation
systems to reserve rooms in our hotels.
Competition
Our hotels compete with several other major lodging brands in each segment
in which they operate. Competition in the industry is based primarily on the
level of service, quality of accommodations, convenience of locations and room
rates. Although the competitive position of each of our hotel properties
differs from market to market, we believe that our properties compare
favorably to their competitive set in the markets in which they operate on the
basis of these factors. The following table presents key participants in
segments of the lodging industry in which we compete:
Segment Representative Participants
------- ---------------------------
Luxury Full-Service Ritz-Carlton; Four Seasons
Upscale Full-Service Crown Plaza; Doubletree; Hyatt; Hilton; Marriott Hotels,
Resort and Suites; Radisson; Renaissance; Sheraton;
Swissotel; Westin; Wyndham
Seasonality
Our hotel revenues have traditionally experienced significant seasonality.
Additionally, hotel revenues in the fourth quarter reflect sixteen weeks of
results compared to twelve weeks for the first three quarters of the fiscal
year. Average hotel sales by quarter over the years 1998 through 2000 for our
lodging properties are as follows:
First Second Third Fourth
Quarter Quarter Quarter Quarter
------- ------- ------- -------
22% 24% 22% 32%
Other Real Estate Investments
We have lease and sublease activity relating primarily to Host Marriott's
former restaurant operations. Additionally, we have lease activity related to
certain office space that we own in Atlanta, Chicago, and San Francisco which
is included in other revenues in our statements of operations.
Employees
We are managed by our Board of Directors and we have no employees who are
not employees of the operating partnership.
Currently, the operating partnership has approximately 201 management
employees, and approximately 14 other employees who are covered by a
collective bargaining agreement that is subject to review and renewal on a
regular basis. We believe that we and our managers have good relations with
labor unions and have not experienced any material business interruptions as a
result of labor disputes.
14
Environmental and Regulatory Matters
Under various federal, state and local environmental laws, ordinances and
regulations, a current or previous owner or operator of real property may be
liable for the costs of removal or remediation of hazardous or toxic
substances on, under or in such property. Such laws may impose liability
whether or not the owner or operator knew of, or was responsible for, the
presence of such hazardous or toxic substances. In addition, certain
environmental laws and common law principles could be used to impose liability
for release of asbestos-containing materials, and third parties may seek
recovery from owners or operators of real properties for personal injury
associated with exposure to released asbestos-containing materials.
Environmental laws also may impose restrictions on the manner in which
property may be used or business may be operated, and these restrictions may
require expenditures. In connection with our current or prior ownership or
operation of hotels, we may be potentially liable for any such costs or
liabilities. Although we are currently not aware of any material environmental
claims pending or threatened against us, we can offer no assurance that a
material environmental claim will not be asserted against us.
The Management Agreements
All of our hotels are subject to management agreements for the operation of
the properties. The original terms of the management agreements are generally
15 to 20 years in length with multiple optional renewal terms. The following
is a brief summary of the general terms of the management agreements a form of
which has been filed with the Commission.
The lessees lease the hotels from the operating partnership or its
subsidiaries. Upon leasing the hotels, the lessees assumed substantially all
of the obligations of such subsidiaries under the management agreements
between those entities and other companies that currently manage the hotels.
As a result of their assumptions of obligations under the management
agreements, the lessees have substantially all of the rights and obligations
of the "owners" of the hotels under the management agreements for the period
during which the leases are in effect (including the obligation to pay the
management fees and other fees thereunder) and hold the lessor harmless with
respect thereto. The lessors remain liable for all obligations under the
management agreements. As previously discussed, effective January 1, 2001, the
lessor leases 116 of our full-service hotels to subsidiaries of a wholly-owned
TRS. Therefore, through our wholly-owned subsidiary, we have assumed the
rights and obligations of the "owners" under the management agreements with
respect to the 116 hotels.
. General. Under each management agreement the manager provides complete
management services to the applicable lessees in connection with its
management of such lessee's hotels.
. Operational services. The managers are responsible for the activities
necessary for the day-to-day operation of the hotels, including
establishment of all room rates, the processing of reservations,
procurement of inventories, supplies and services, periodic inspection
and consultation visits to the hotels by the managers' technical and
operational experts and promotion and publicity of the hotels. The
manager receives compensation from the lessee in the form of a base
management fee and an incentive management fee, which are normally
calculated as percentages of gross revenues and operating profits,
respectively.
. Executive supervision and management services. The managers provide all
managerial and other employees for the hotels; review the operation and
maintenance of the hotels; prepare reports, budgets and projections;
provide other administrative and accounting support services, such as
planning and policy services, financial planning, divisional financial
services, risk planning services, product planning and development,
employee planning, corporate executive management, legislative and
governmental representation and certain in-house legal services; and
protect trademarks, trade-names and service marks. The manager also
provides a national reservations system.
. Chain services. The management agreements require the manager to furnish
chain services that are furnished generally on a central or regional
basis. Such services include: (1) the development and operation of
computer systems and reservation services, (2) administrative services,
marketing and sales services, training services, manpower development
and relocation costs of personnel and (3) such
15
additional central services as may from time to time be more efficiently
performed on a group level. Costs and expenses incurred in providing
such services are required to be allocated among all hotels managed by
the manager or its affiliates and each applicable lessee is required to
reimburse the manager for its allocable share of such costs and
expenses.
. Working capital and fixed asset supplies. The lessee is required to
maintain working capital for each hotel and fund the cost of fixed asset
supplies, which principally consist of linen and similar items. The
applicable lessee also is responsible for providing funds to meet the
cash needs for the operations of the hotels if at any time the funds
available from operations are insufficient to meet the financial
requirements of the hotels.
. Use of affiliates. The manager employs the services of its affiliates to
provide certain services under the management agreements.
FF&E replacements. The management agreements generally provide that once
each year the manager will prepare a list of FF&E to be acquired and certain
routine repairs that are normally capitalized to be performed in the next year
and an estimate of the funds necessary therefor. Under the terms of the
leases, the lessor is required to provide to the applicable lessee all
necessary FF&E for the operation of the hotels (including funding any required
FF&E replacements). For purposes of funding the FF&E replacements, a specified
percentage (generally 5%) of the gross revenues of the hotel is deposited by
the manager into a book entry account. These amounts are treated under the
leases as paid by the lessees to the lessor and will be credited against their
rental obligations.
Under each lease, the lessor is responsible for the costs of FF&E
replacements and for decisions with respect thereto (subject to its
obligations to the lessee under the lease).
. Building alterations, improvements and renewals. The management
agreements require the manager to prepare an annual estimate of the
expenditures necessary for major repairs, alterations, improvements,
renewals and replacements to the structural, mechanical, electrical,
heating, ventilating, air conditioning, plumbing and vertical
transportation elements of each hotel. Such estimate must be submitted
to the lessor and the lessee for their approval. In addition to the
foregoing, the management agreements generally provide that the manager
may propose such changes, alterations and improvements to the hotel as
are required, in the manager's reasonable judgment, to keep the hotel in
a competitive, efficient and economical operating condition or in
accordance with Marriott standards. The cost of the foregoing is paid
from the FF&E reserve account; to the extent that there are insufficient
funds in such account, the lessor is required to pay any shortfall.
. Service marks. During the term of the management agreements, the service
mark, symbols and logos currently used by the manager and its
affiliates, may be used in the operation of the hotels. Marriott
International, Four Seasons, Hilton, Hyatt, and Swissotel intend to
retain their legal ownership of these marks. Any right to use the
service marks, logo and symbols and related trademarks at a hotel will
terminate with respect to that hotel upon termination of the management
agreement with respect to such hotel.
. Termination fee. Certain of the management agreements provide that if
the management agreement is terminated prior to its full term due to
casualty, condemnation or the sale of the hotel, the manager would
receive a termination fee as specified in the specific management
agreement. Under the leases, the responsibility for the payment of any
such termination fee as between the lessee and the lessor depends upon
the cause for such termination.
. Termination for failure to perform. Most of the management agreements
may be terminated based upon a failure to meet certain financial
performance criteria, subject to the manager's right to prevent such
termination by making specified payments to the lessee based upon the
shortfall in such criteria.
. Assignment of management agreements. The management agreements
applicable to each hotel have been assigned to the applicable lessee for
the term of the lease of such hotel. As previously discussed, virtually
all of our full-service hotels were leased to Crestline during 1999 and
2000, and are now leased to subsidiaries of our wholly-owned TRS as a
result of our acquisition of the Crestline Lessee
16
Entities during January 2001. The lessee is obligated to perform all of
the obligations of the lessor under the management agreement during the
term of its lease, other than specified retained obligations including,
without limitation, payment of real property taxes, property casualty
insurance and ground rent, and maintaining a reserve fund for FF&E
replacements and capital expenditures, for which the lessor retains
responsibility. Although the lessee has assumed obligations of the
lessor under the management agreement, the lessor is not released from
its obligations and, if the lessee fails to perform any obligations, the
manager will be entitled to seek performance by or damages from the
lessor. If the lease is terminated for any reason, any new or successor
lessee must meet certain requirements for an approved lessee or
otherwise be acceptable to the manager.
Non-competition agreements
We agreed with Crestline that until December 31, 2003, we would not
purchase, finance or otherwise invest in senior living communities, or act as
an agent or consultant with respect to any of the foregoing activities, except
for acquisitions of communities which represent an immaterial portion of a
merger or similar transaction or for minimal portfolio investments in other
entities. In connection with the acquisition of the Crestline Lessee Entities,
the non-competition agreement was terminated effective January 1, 2001 and
thereafter.
We agreed with Marriott International that until June 21, 2007, we would not
operate, manage or franchise (as franchisor) senior living facilities or
invest, finance or act as an agent or consultant with respect to any of the
foregoing activities, except for acquisitions of entities engaged in such
operating, management or franchising activities if such activities are
terminated or divested within 12 months of such acquisition or for minimal
portfolio investments in such entities and except for operating or managing
senior living facilities for a transitional period or up to 12 months in
connection with a change in the operator or manager of such facility.
Risk Factors
The following risk factors should be carefully considered by prospective
investors.
Risks of ownership of our common stock
There are limitations on the acquisition of our common stock and changes in
control. Our charter and bylaws, the partnership agreement of the operating
partnership, our shareholder rights plan and the Maryland General Corporation
Law contain a number of provisions that could delay, defer or prevent a
transaction or a change in control of us that might involve a premium price
for our shareholders or otherwise be in their best interests, including the
following:
Ownership limit. The 9.8% ownership limit described under "--There are
possible adverse consequences of limits on ownership of our common stock"
below may have the effect of precluding a change in control of us by a
third party without the consent of our Board of Directors, even if such
change in control would be in the interest of our shareholders, and even if
such change in control would not reasonably jeopardize our REIT status.
Staggered board. Our charter provides that our Board of Directors will
consist of nine members and can be increased or decreased after that
according to our bylaws, provided that the total number of directors is not
less than three nor more than 13. Pursuant to our bylaws, the number of
directors will be fixed by our Board of Directors within the limits in our
charter. Our Board of Directors is divided into three classes of directors.
Directors for each class are chosen for a three-year term when the term of
the current class expires. The staggered terms for directors may affect
shareholders' ability to effect a change in control of us, even if a change
in control would be in the interest of our shareholders. Currently, there
are nine directors.
Removal of board of directors. Our charter provides that, except for any
directors who may be elected by holders of a class or series of shares of
capital stock other than our common stock, directors may be removed only
for cause and only by the affirmative vote of shareholders holding at least
two-thirds of our outstanding shares entitled to be cast for the election
of directors. Vacancies on the Board of Directors may be filled by the
concurring vote of a majority of the remaining directors and, in the case
of a vacancy resulting from the removal of a director by the shareholders,
by at least two-thirds of all the votes entitled to be cast in the election
of directors.
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Preferred shares; classification or reclassification of unissued shares
of capital stock without shareholder approval. Our charter provides that
the total number of shares of stock of all classes which we have authority
to issue is 800,000,000, initially consisting of 750,000,000 shares of
common stock and 50,000,000 shares of preferred stock, of which 8,160,000
have been issued. Our Board of Directors has the authority, without a vote
of shareholders, to classify or reclassify any unissued shares of stock,
including common stock into preferred stock or vice versa, and to establish
the preferences and rights of any preferred or other class or series of
shares to be issued. The issuance of preferred shares or other shares
having special preferences or rights could delay or prevent a change in
control even if a change in control would be in the interests of our
shareholders. Because our Board of Directors has the power to establish the
preferences and rights of additional classes or series of shares without a
shareholder vote, our Board of Directors may give the holders of any class
or series preferences, powers and rights, including voting rights, senior
to the rights of holders of our common stock.
Consent rights of the limited partners. Under the partnership agreement
of the operating partnership, we generally will be able to merge or
consolidate with another entity with the consent of partners holding
percentage interests that are more than 50% of the aggregate percentage
interests of the outstanding limited partnership interests entitled to vote
on the merger or consolidation, including any limited partnership interests
held by us, as long as the holders of limited partnership interests either
receive or have the right to receive the same consideration as our
shareholders. We, as holder of a majority of the limited partnership
interests, would be able to control the vote. Under our charter, holders of
at least two-thirds of our outstanding shares of common stock generally
must approve the merger or consolidation.
Maryland business combination law. Under the Maryland General Corporation
Law, specified "business combinations," including specified issuances of
equity securities, between a Maryland corporation and any person who owns
10% or more of the voting power of the corporation's then outstanding
shares, or an "interested shareholder," or an affiliate of the interested
shareholder are prohibited for five years after the most recent date in
which the interested shareholder becomes an interested shareholder.
Thereafter, any such business combination must be approved by 80% of
outstanding voting shares, and by two-thirds of voting shares other than
voting shares held by an interested shareholder unless, among other
conditions, the corporation's common shareholders receive a minimum price,
as defined in the Maryland General Corporation Law, for their shares and
the consideration is received in cash or in the same form as previously
paid by the interested shareholder. We are subject to the Maryland business
combination statute.
Maryland control share acquisition law. Under the Maryland General
Corporation Law, "control shares" acquired in a "control share acquisition"
have no voting rights except to the extent approved by a vote of two-thirds
of the votes entitled to be cast on the matter, excluding shares owned by
the acquiror and by officers or directors who are employees of the
corporation. "Control shares" are voting shares which, if aggregated with
all other such shares previously acquired by the acquiror or in respect of
which the acquiror is able to exercise or direct the exercise of voting
power (except solely by virtue of a revocable proxy), would entitle the
acquiror to exercise voting power in electing directors within one of the
following ranges of voting power: (1) one-fifth or more but less than one-
third, (2) one-third or more but less than a majority or (3) a majority or
more of the voting power. Control shares do not include shares the
acquiring person is then entitled to vote as a result of having previously
obtained shareholder approval. A "control share acquisition" means the
acquisition of control shares, subject to specified exceptions. We are
subject to these control share provisions of Maryland law, subject to an
exemption for Marriott International pursuant to its purchase right. See
"Risks of ownership of our common stock--Marriott International purchase
right."
Merger, consolidation, share exchange and transfer of our
assets. Pursuant to our charter, subject to the terms of any outstanding
class or series of capital stock, we can merge with or into another entity,
consolidate with one or more other entities, participate in a share
exchange or transfer our assets within the meaning of the Maryland General
Corporation Law if approved (1) by our Board of Directors in the manner
provided in the Maryland General Corporation Law and (2) by our
shareholders holding two-thirds of all the votes entitled to be cast on the
matter, except that any merger of us with or into a trust organized for the
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purpose of changing our form of organization from a corporation to a trust
requires only the approval of our shareholders holding a majority of all
votes entitled to be cast on the merger. Under the Maryland General
Corporation Law, specified mergers may be approved without a vote of
shareholders and a share exchange is only required to be approved by a
Maryland corporation by its Board of Directors. Our voluntary dissolution
also would require approval of shareholders holding two-thirds of all the
votes entitled to be cast on the matter.
Amendments to our charter and bylaws. Our charter contains provisions
relating to restrictions on transferability of our common stock, the
classified Board of Directors, fixing the size of our Board of Directors
within the range set forth in our charter, removal of directors and the
filling of vacancies, all of which may be amended only by a resolution
adopted by the Board of Directors and approved by our shareholders holding
two-thirds of the votes entitled to be cast on the matter. As permitted
under the Maryland General Corporation Law, our charter and bylaws provide
that directors have the exclusive right to amend our bylaws. Amendments of
this provision of our charter also would require action of our Board of
Directors and approval by shareholders holding two-thirds of all the votes
entitled to be cast on the matter.
Marriott International purchase right. As a result of our spin-off of
Marriott International in 1993, Marriott International has the right to
purchase up to 20% of each class of our outstanding voting shares at the
then fair market value when specific change of control events involving us
occur, subject to specified limitations to protect our REIT status. The
Marriott International purchase right may have the effect of discouraging a
takeover of us, because any person considering acquiring a substantial or
controlling block of our common stock will face the possibility that its
ability to obtain or exercise control would be impaired or made more
expensive by the exercise of the Marriott International purchase right.
Shareholder rights plan. We adopted a shareholder rights plan which
provides, among other things, that when specified events occur, our
shareholders will be entitled to purchase from us a newly created series of
junior preferred shares, subject to our ownership limit described below.
The preferred share purchase rights are triggered by the earlier to occur
of (1) ten days after the date of a public announcement that a person or
group acting in concert has acquired, or obtained the right to acquire,
beneficial ownership of 20% or more of our outstanding shares of common
stock or (2) ten business days after the commencement of or announcement of
an intention to make a tender offer or exchange offer, the consummation of
which would result in the acquiring person becoming the beneficial owner of
20% or more of our outstanding common stock. The preferred share purchase
rights would cause substantial dilution to a person or group that attempts
to acquire us on terms not approved by our Board of Directors.
There are possible adverse consequences of limits on ownership of our common
stock. To maintain our qualification as a REIT for federal income tax
purposes, not more than 50% in value of our outstanding shares of capital
stock may be owned, directly or indirectly, by five or fewer individuals, as
defined in the Internal Revenue Code to include some entities. In addition, a
person who owns, directly or by attribution, 10% or more of an interest in a
tenant of ours, or a tenant of any partnership in which we are a partner,
cannot own, directly or by attribution, 10% or more of our shares without
jeopardizing our qualification as a REIT. Primarily to facilitate maintenance
of our qualification as a REIT for federal income tax purposes, the ownership
limit under our charter prohibits ownership, directly or by virtue of the
attribution provisions of the Internal Revenue Code, by any person or persons
acting as a group, of more than 9.8% of the issued and outstanding shares of
our common stock, subject to an exception for shares of our common stock held
prior to the REIT conversion so long as the holder would not own more than
9.9% in value of our outstanding shares after the REIT conversion, and
prohibits ownership, directly or by virtue of the attribution provisions of
the Internal Revenue Code, by any person, or persons acting as a group, of
more than 9.8% of the issued and outstanding shares of any class or series of
our preferred shares. Together, these limitations are referred to as the
"ownership limit." Our Board of Directors, in its sole and absolute
discretion, may waive or modify the ownership limit with respect to one or
more persons who would not be treated as "individuals" for purposes of the
Internal Revenue Code if it is satisfied, based upon information required to
be provided by the party seeking the waiver and upon an opinion of counsel
satisfactory to our Board of Directors, that ownership in excess of this limit
will not cause a person
19
who is an individual to be treated as owning shares in excess of the ownership
limit, applying the applicable constructive ownership rules, and will not
otherwise jeopardize our status as a REIT for federal income tax purposes (for
example, by causing any of our tenants to be considered a "related party
tenant" for purposes of the REIT qualification rules). Common stock acquired
or held in violation of the ownership limit will be transferred automatically
to a trust for the benefit of a designated charitable beneficiary, and the
person who acquired such common stock in violation of the ownership limit will
not be entitled to any distributions thereon, to vote such shares of common
stock or to receive any proceeds from the subsequent sale thereof in excess of
the lesser of the price paid therefor or the amount realized from such sale. A
transfer of shares of our common stock to a person who, as a result of the
transfer, violates the ownership limit may be void under certain
circumstances, and, in any event, would deny that person any of the economic
benefits of owning shares of our common stock in excess of the ownership
limit. The ownership limit may have the effect of delaying, deferring or
preventing a change in control and, therefore, could adversely affect the
shareholders' ability to realize a premium over the then-prevailing market
price for our common stock in connection with such transaction.
We depend on external sources of capital for future growth. As with other
REITs, but unlike corporations generally, our ability to reduce our debt and
finance our growth largely must be funded by external sources of capital
because we generally will have to distribute to our shareholders 90% of our
taxable income in order to qualify as a REIT, including taxable income where
we do not receive corresponding cash. For taxable years prior to January 1,
2001, we were required to distribute 95% of our taxable income to qualify as a
REIT. Our access to external capital will depend upon a number of factors,
including general market conditions, the market's perception of our growth
potential, our current and potential future earnings, cash distributions and
the market price of our common stock. Currently, our access to external
capital has been limited to the extent that our common stock is trading at
what we believe is a discount to our estimated net asset value.
Shares of our common stock that are or become available for sale could
affect the price for shares of our common stock. Sales of a substantial number
of shares of our common stock, or the perception that sales could occur, could
adversely affect prevailing market prices for our common stock. In addition,
holders of units of limited partnership interest in the operating partnership
(referred to as "OP Units"), who redeem their OP Units and receive common
stock will be able to sell such shares freely, unless the person is our
affiliate and resale of such affiliate's shares is not covered by an effective
registration statement. There are currently approximately 51 million OP Units
outstanding, all of which are currently redeemable. Further, a substantial
number of shares of our common stock have been and will be issued or reserved
for issuance from time to time under our employee benefit plans, including
shares of our common stock reserved for options, and these shares of common
stock would be available for sale in the public markets from time to time
pursuant to exemptions from registration or upon registration. Moreover, the
issuance of additional shares of our common stock by us in the future would be
available for sale in the public markets. We can make no prediction about the
effect that future sales of our common stock would have on the market price of
our common stock.
Our earnings and cash distributions will affect the market price of shares
of our common stock. We believe that the market value of a REIT's equity
securities is based primarily upon the market's perception of the REIT's
growth potential and its current and potential future cash distributions,
whether from operations, sales, acquisitions, development or refinancings, and
is secondarily based upon the value of the underlying assets. For that reason,
shares of our common stock may trade at prices that are higher or lower than
the net asset value per share. To the extent we retain operating cash flow for
investment purposes, working capital reserves or other purposes rather than
distributing such cash flow to shareholders, these retained funds, while
increasing the value of our underlying assets, may not correspondingly
increase the market price of our common stock. Our failure to meet the
market's expectation with regard to future earnings and cash distributions
would likely adversely affect the market price of our common stock.
Market interest rates may affect the price of shares of our common
stock. One of the factors that investors consider important in deciding
whether to buy or sell shares of a REIT is the distribution rate on such
shares, considered as a percentage of the price of such shares, relative to
market interest rates. If market interest
20
rates increase, prospective purchasers of REIT shares may expect a higher
distribution rate. Thus, higher market interest rates could cause the market
price of our shares to go down.
Risks of operation
We do not control our hotel operations, and we are dependent on the managers
of our hotels. Because federal income tax laws currently restrict REITs and
"publicly traded" partnerships from deriving revenues directly from operating
a hotel, we do not manage our hotels. Instead, we retain managers to manage
our hotels pursuant to management agreements. Our income from the hotels may
be adversely affected if the managers fail to provide quality services and
amenities and competitive room rates at our hotels or fail to maintain the
quality of the hotel brand names. While we employ very aggressive asset
management techniques to oversee the managers' performance, we have limited
specific recourse if we believe that the hotel managers do not maximize the
revenues from our hotels or control expenses, which in turn will maximize our
results of operations and EBITDA on a consolidated basis.
Our relationship with Marriott International may result in conflicts of
interest. Marriott International, a public hotel management company, manages a
significant number of our hotels. In addition, Marriott International manages
and in some cases may own or be invested in hotels that compete with our
hotels. As a result, Marriott International may make decisions regarding
competing lodging facilities which it manages that would not necessarily be in
our best interests. J.W. Marriott, Jr. is a member of our Board of Directors
and his brother, Richard E. Marriott, is our Chairman of the Board. Both J.W.
Marriott, Jr. and Richard E. Marriott serve as directors, and J.W. Marriott,
Jr. also serves as an officer, of Marriott International. J.W. Marriott, Jr.
and Richard E. Marriott beneficially own, as determined for securities law
purposes, as of January 31, 2001, approximately 12.6% and 12.2%, respectively,
of the outstanding shares of common stock of Marriott International. As a
result, J.W. Marriott, Jr. and Richard E. Marriott have potential conflicts of
interest as our directors when making decisions regarding Marriott
International, including decisions relating to the management agreements
involving the hotels and Marriott International's management of competing
lodging properties.
Both our Board of Directors and the Board of Directors of Marriott
International follow appropriate policies and procedures to limit the
involvement of Messrs. J.W. Marriott, Jr. and Richard E. Marriott in conflict
situations, including requiring them to abstain from voting as directors of
either us or Marriott International or our or their subsidiaries on matters
which present a conflict between the companies. If appropriate, these policies
and procedures will apply to other directors and officers.
We have substantial indebtedness. Our degree of leverage could affect our
ability to:
. obtain financing in the future for working capital, capital
expenditures, acquisitions, development or other general business
purposes;
. undertake financings on terms and conditions acceptable to us;
. pursue our acquisition strategy; or
. compete effectively or operate successfully under adverse economic
conditions.
If our cash flow and working capital are not sufficient to fund our
expenditures or service our indebtedness, we would have to raise additional
funds through:
. the sale of equity;
. the refinancing of all or part of our indebtedness;
. the incurrence of additional permitted indebtedness; or
. the sale of assets.
We cannot assure you that any of these sources of funds would be available
in amounts sufficient for us to meet our obligations or fulfill our business
plans. Additionally, our debt contains performance related covenants
21
that, if not achieved, could require immediate repayment of our debt or
significantly increase the rate of interest on our debt.
There is no limitation on the amount of debt we may incur. There are no
limitations in our organizational documents or the operating partnership's
organizational documents that limit the amount of indebtedness that we may
incur. However, our existing debt instruments contain restrictions on the
amount of indebtedness that we may incur. Accordingly, we could incur
indebtedness to the extent permitted by our debt agreements. If we became more
highly leveraged, our debt service payments would increase and our cash flow
and our ability to service our debt and make distributions to our shareholders
would be adversely affected.
Our management agreements could impair the sale or other disposition of our
hotels. Under the terms of the management agreements, we generally may not
sell, lease or otherwise transfer the hotels unless the transferee assumes the
related management agreements and meets specified other conditions. Our
ability to finance, refinance or sell any of the properties may, depending
upon the structure of such transactions, require the manager's consent. If the
manager did not consent, we would be prohibited from financing, refinancing or
selling the property without breaching the management agreement.
The acquisition contracts relating to some hotels limit our ability to sell
or refinance those hotels. For reasons relating to federal income tax
considerations of the former owners of some of our hotels, we agreed to
restrictions on selling some hotels or repaying or refinancing the mortgage
debt on those hotels for varying periods depending on the hotel. We anticipate
that, in specified circumstances, we may agree to similar restrictions in
connection with future hotel acquisitions. As a result, even if it were in our
best interests to sell or refinance the mortgage debt on these hotels, it may
be difficult or impossible to do so during their respective lock-out periods.
Our ground lease payments may increase faster than the revenues we receive
on the hotels. As of January 31, 2001, we leased 46 of our hotels pursuant to
ground leases. These ground leases generally require increases in ground rent
payments every five years. Our ability to make distributions to shareholders
could be adversely affected to the extent that our revenues do not increase at
the same or a greater rate as the increases under the ground leases. In
addition, if we were to sell a hotel encumbered by a ground lease, the buyer
would have to assume the ground lease, which could result in a lower sales
price. Moreover, to the extent that such ground leases are not renewed at
their expiration, our revenues could be adversely affected.
New acquisitions may fail to perform as expected or we may be unable to make
acquisitions on favorable terms. We intend to acquire additional full-service
hotels. Newly acquired properties may fail to perform as expected, which could
adversely affect our financial condition. We may underestimate the costs
necessary to bring an acquired property up to standards established for its
intended market position. We expect to acquire hotels with cash from secured
or unsecured financings and proceeds from offerings of equity or debt, to the
extent available. We may not be in a position or have the opportunity in the
future to make suitable property acquisitions on favorable terms. Competition
for attractive investment opportunities may increase prices for hotel
properties, thereby decreasing the potential return on our investment.
We may be unable to sell properties when appropriate because real estate
investments are illiquid. Real estate investments generally cannot be sold
quickly. We may not be able to vary our portfolio promptly in response to
economic or other conditions. The inability to respond promptly to changes in
the performance of our investments could adversely affect our financial
condition, and ability to service debt and make distributions to shareholders.
In addition, there are limitations under the federal tax laws applicable to
REITs and agreements that we have entered into when we acquired some of our
properties that may limit our ability to recognize the full economic benefit
from a sale of our assets.
Our revenues and the value of our properties are subject to conditions
affecting the lodging industry. If our assets do not generate income
sufficient to pay our expenses, service our debt and maintain our properties,
we will be unable to make distributions to our shareholders. Our revenues and
the value of our properties are subject to conditions affecting the lodging
industry. These include:
22
. changes in the national, regional and local economic climate;
. local conditions such as an oversupply of hotel properties or a
reduction in demand for hotel rooms;
. the attractiveness of our hotels to consumers and competition from
comparable hotels;
. the quality, philosophy and performance of the managers of our hotels;
. changes in room rates and increases in operating costs due to inflation
and other factors; and
. the need to periodically repair and renovate our hotels.
. Adverse changes in these conditions could adversely affect our financial
performance.
Our expenses may remain constant even if our revenue drops. The expenses of
owning property are not necessarily reduced when circumstances like market
factors and competition cause a reduction in income from the property. If a
property is mortgaged and we are unable to meet the mortgage payments, the
lender could foreclose and take the property. Our financial condition could be
adversely affected by:
. interest rate levels;
. the availability of financing;
. the cost of compliance with government regulation, including zoning and
tax laws; and
. changes in governmental regulations, including those governing usage,
zoning and taxes.
We depend on our key personnel. We depend on the efforts of our executive
officers and other key personnel. While we believe that we could find
replacements for these key personnel, the loss of their services could have a
significant adverse effect on our operations. We do not intend to obtain key-
man life insurance with respect to any of our personnel.
Partnership and other litigation judgments or settlements could have a
material adverse effect on our financial condition. We and the operating
partnership are parties to various lawsuits relating to previous partnership
transactions, including the REIT conversion. While we and the other defendants
to such lawsuits believe all of the lawsuits in which we are a defendant are
without merit and we are vigorously defending against such claims, we can give
no assurance as to the outcome of any of the lawsuits. In connection with the
REIT conversion, the operating partnership has assumed all liability arising
under legal proceedings filed against us and will indemnify us as to all such
matters. If any of the lawsuits were to be determined adversely to us or
settlement involving a payment of a material sum of money were to occur, there
could be a material adverse effect on our financial condition.
We may acquire hotel properties through joint ventures with third parties
that could result in conflicts. Instead of purchasing hotel properties
directly, we may invest as a co-venturer. Joint venturers often share control
over the operation of the joint venture assets. Actions by a co-venturer could
subject the assets to additional risk, including:
. our co-venturer in an investment might have economic or business
interests or goals that are inconsistent with our interests or goals;
. our co-venturers may be in a position to take action contrary to our
instructions or requests or contrary to our policies or objectives; or
. a joint venture partner could go bankrupt, leaving us liable for its
share of joint venture liabilities.
Although we generally will seek to maintain sufficient control of any joint
venture to permit our objectives to be achieved, we might not be able to take
action without the approval of our joint venture partners. Also, our joint
venture partners could take actions binding on the joint venture without our
consent.
Environmental problems are possible and can be costly. We believe that our
properties are in compliance in all material respects with applicable
environmental laws. Unidentified environmental liabilities could arise,
however, and could have a material adverse effect on our financial condition
and performance.
23
Federal, state and local laws and regulations relating to the protection of
the environment may require a current or previous owner or operator of real
estate to investigate and clean up hazardous or toxic substances or petroleum
product releases at the property. The owner or operator may have to pay a
governmental entity or third parties for property damage and for investigation
and clean-up costs incurred by the parties in connection with the
contamination. These laws typically impose clean-up responsibility and
liability without regard to whether the owner or operator knew of or caused
the presence of the contaminants. Even if more than one person may have been
responsible for the contamination, each person covered by the environmental
laws may be held responsible for all of the clean-up costs incurred. In
addition, third parties may sue the owner or operator of a site for damages
and costs resulting from environmental contamination emanating from that site.
Environmental laws also govern the presence, maintenance and removal of
asbestos. These laws require that owners or operators of buildings containing
asbestos properly manage and maintain the asbestos, they notify and train
those who may come into contact with asbestos and they undertake special
precautions, including removal or other abatement, if asbestos would be
disturbed during renovation or demolition of a building. These laws may impose
fines and penalties on building owners or operators who fail to comply with
these requirements and may allow third parties to seek recovery from owners or
operators for personal injury associated with exposure to asbestos fibers.
Compliance with other government regulations can also be costly. Our hotels
are subject to various forms of regulation, including Title III of the
Americans with Disabilities Act, building codes and regulations pertaining to
fire safety. Compliance with those laws and regulations could require
substantial capital expenditures. These regulations may be changed from time
to time, or new regulations adopted, resulting in additional or unexpected
costs of compliance. Any increased costs could reduce the cash available for
servicing debt and making distributions to our shareholders.
Some potential losses are not covered by insurance. We carry comprehensive
liability, fire, flood, extended coverage and rental loss, for rental losses
extending up to 12 months, insurance with respect to all of our hotels. We
believe the policy specifications and insured limits of these policies are of
the type customarily carried for similar hotels. Some types of losses, such as
from earthquakes and environmental hazards, however, may be either uninsurable
or too expensive to justify insuring against. Should an uninsured loss or a
loss in excess of insured limits occur, we could lose all or a portion of the
capital we have invested in a hotel, as well as the anticipated future revenue
from the hotel. In that event, we might nevertheless remain obligated for any
mortgage debt or other financial obligations related to the property.
Federal income tax risks
General. We believe that we have been organized and have operated in such a
manner so as to qualify as a REIT under the Internal Revenue Code, commencing
with our taxable year beginning January 1, 1999. A REIT generally is not taxed
at the corporate level on income it currently distributes to its shareholders
as long as it distributes at least 90% of its taxable income, excluding net
capital gain. No assurance can be provided, however, that we qualify as a REIT
or that new legislation, Treasury Regulations, administrative interpretations
or court decisions will not significantly change the tax laws with respect to
our qualification as a REIT or the federal income tax consequences of such
qualification.
Required distributions and payments. To continue to qualify as a REIT, we
currently are required each year to distribute to our shareholders at least
90% of our taxable income, excluding net capital gain (for our taxable years
that ended prior to January 1, 2001, we were required to distribute at least
95% of this amount to so qualify). Due to some transactions entered into in
years prior to the REIT conversion, we expect to recognize substantial amounts
of "phantom" income, which is taxable income that is not matched by cash flow
or EBITDA to us. In addition, we will be subject to a 4% nondeductible excise
tax on the amount, if any, by which distributions made by us with respect to
the calendar year are less than the sum of 85% of our ordinary income and 95%
of our capital gain net income for that year and any undistributed taxable
income from prior periods. We intend to make distributions to our shareholders
to comply with the distribution requirement and to avoid the nondeductible
excise tax and will rely for this purpose on distributions from the operating
partnership. However,
24
differences in timing between taxable income and cash available for
distribution due to, among other things, the seasonality of the lodging
industry and the fact that some taxable income will be "phantom" income could
require us to borrow funds or to issue additional equity to enable us to meet
the distribution requirement and, therefore, to maintain our REIT status, and
to avoid the nondeductible excise tax. The operating partnership is required
to pay, or reimburse us, as its general partner, for some taxes and other
liabilities and expenses that we incur, including all taxes and liabilities
attributable to periods and events prior to the REIT conversion. In addition,
because the REIT distribution requirements prevent us from retaining earnings,
we will generally be required to refinance debt that matures with additional
debt or equity. We cannot assure you that any of these sources of funds, if
available at all, would be sufficient to meet our distribution and tax
obligations.
Adverse consequences of our failure to qualify as a REIT. If we fail to
qualify as a REIT, we will be subject to federal income tax, including any
applicable alternative minimum tax, on our taxable income at regular corporate
rates. In addition, unless entitled to statutory relief, we will not qualify
as a REIT for the four taxable years following the year during which REIT
qualification is lost. The additional tax burden on us would significantly
reduce the cash available for distribution by us to our shareholders and we
would no longer be required to make any distributions to shareholders. Our
failure to qualify as a REIT could reduce materially the value of our common
stock and would cause any distributions to shareholders that otherwise would
have been subject to tax as capital gain dividends to be taxable as ordinary
income to the extent of our current and accumulated earnings and profits, or
E&P. However, subject to limitations under the Internal Revenue Code,
corporate distributees may be eligible for the dividends received deduction
with respect to our distributions. Our failure to qualify as a REIT also would
result in a default under our senior notes and our credit facility.
Our earnings and profits attributable to our non-REIT taxable years. In
order to qualify as a REIT, we cannot have at the end of any taxable year any
undistributed E&P that is attributable to one of our non-REIT taxable years. A
REIT has until the close of its first taxable year as a REIT in which it has
non-REIT E&P to distribute such accumulated E&P. We were required to have
distributed this E&P prior to the end of 1999, the first taxable year for
which our REIT election was effective. If we failed to do this, we will be
disqualified as a REIT at least for taxable year 1999. We believe that
distributions of non-REIT E&P that we made were sufficient to distribute all
of the non-REIT E&P as of December 31, 1999, but there could be uncertainties
relating to the estimate of our non-REIT E&P and the value of the Crestline
stock that we distributed to our shareholders. Therefore, we cannot guarantee
that we met this requirement.
Treatment of leases. To qualify as a REIT, we must satisfy two gross income
tests, under which specified percentages of our gross income must be passive
income, like rent. For the rent paid pursuant to the leases, which constitutes
substantially all of our gross income, to qualify for purposes of the gross
income tests, the leases must be respected as true leases for federal income
tax purposes and not be treated as service contracts, joint ventures or some
other type of arrangement. In addition, the lessees must not be regarded as
"related party tenants," as defined in the Internal Revenue Code. We believe,
taking into account both the terms of the leases and the expectations that we
and the lessees have with respect to the leases, that the leases will be
respected as true leases for federal income tax purposes. There can be no
assurance, however, that the IRS will agree with this view. If the leases were
not respected as true leases for federal income tax purposes or if the lessees
were regarded as "related party tenants," we would not be able to satisfy
either of the two gross income tests applicable to REITs and we would lose our
REIT status. See "--Adverse consequences of our failure to qualify as a REIT"
above.
For our taxable years beginning on and after January 1, 2001, as a result of
the REIT Modernization Act, we are permitted to lease our hotels to a
subsidiary of the operating partnership that is taxable as a corporation and
that elects to be treated as a "taxable REIT subsidiary." Accordingly,
effective January 1, 2001, HMT Lessee, a newly created, wholly owned
subsidiary of the operating partnership, directly or indirectly acquired all<